6 Key Points to Understand About the Bill for Eliminating Social Security Tax

A new proposal has surfaced this week in the U.S. House of Representatives with the goal of enhancing the financial stability of the Social Security program. This proposal seeks to achieve this by repealing the federal taxation of benefits and gradually eliminating the current wage cap on taxable earnings.

The You Earned It, You Keep It Act, sponsored by Reps. Angie Craig, D-Minn., and Yadira Caraveo, D-Colo., aims to make the Social Security retirement program fairer and extend the projected insolvency date of the trust fund. This proposed reform would push the insolvency date to 2054, which is 20 years beyond the current projection of 2034.

The main approach to achieve this goal is by increasing payroll taxes on wages exceeding $250,000. Currently, these taxes are only applied up to a certain limit that adjusts for inflation, which is $168,600 for 2024. The tax limit would continue to rise until it reaches $250,000, effectively eliminating it.

Starting in 2025, the proposed change aims to remove the federal taxation on Social Security benefits for individuals filing personal income taxes. However, the three trust funds would still receive necessary funding through transfers from the general fund of the Treasury. These transfers would compensate for the revenue that would have been generated from taxing benefits if this provision were not in place.

The Office of the Chief Actuary of the Social Security Administration has released a comprehensive analysis of the bill’s provisions and their potential impact on beneficiaries, government revenues, and the solvency of Social Security in response to a request from Craig and Caraveo.

The analysis demonstrates that the You Earned It, You Keep It Act would also result in an $8.9 trillion reduction in the federal debt over a span of 75 years. This reduction would be attributed to the fact that the transfers from the Treasury’s general fund to the trust funds, although substantial, would be considerably smaller compared to the positive increases in overall cash flows that would be generated by the gradual elimination of the taxable maximum wage cap.

The SSA’s report unveils six significant findings.

1. The bill would keep the trust funds solvent until 2054.

The SSA also states that if the funds run out, the impact of benefit cuts would be less severe.

In accordance with existing regulations, the projected payout of scheduled benefits is expected to be 80% by 2034 after the combined trust fund reserves are depleted. However, the percentage of benefits payable is anticipated to decrease to 74% by 2097.

According to the proposal, it is projected that 91% of scheduled benefits will be paid on time in 2054, once the combined trust fund reserves are depleted. However, this percentage is expected to decline to 88% by 2097.

2. All earnings would likely be subject to the Social Security payroll tax by 2035.

According to the SSA report, starting in 2025, the proposal aims to impose the total Social Security payroll tax rate on earnings above $250,000.

The $250,000 level, importantly, does not adjust for price inflation or variations in the average wage index. Once the taxable maximum as per the current law surpasses $250,000, all covered earnings will be subjected to taxation. This is estimated to happen in the year 2035.

Any earnings that exceed either $250,000 or the current-law taxable maximum in a specific year will be considered as additional earnings subject to taxation. These additional earnings will be credited for benefit purposes using a formula outlined in the proposal.

3. The program’s long-range deficit drops meaningfully.

According to the SSA report, implementing the two provisions outlined in the proposal would lead to a significant reduction in the long-term actuarial deficit of the Social Security program, formally known as Old Age, Survivors, and Disability Insurance. Specifically, this deficit would decrease from 3.61% of taxable payroll, as stipulated by current law, to just 1.30% of payroll under the proposal.

It’s important to note that the projected cost mentioned here encompasses the complete expense of scheduled benefits under both the existing legislation and the proposed changes. As explained in the SSA report, once the trust fund reserves are depleted, the projected expenditures under both the current law and the proposal will consist solely of amounts payable from anticipated tax revenues (non-interest income). These projected tax revenues are anticipated to be less than the overall projected cost of the program.

4. Key trust funds would be held harmless.

As per current law, individuals filing as single tax filers with a combined income exceeding $25,000 may be subject to income tax on up to 50% of their Social Security benefits. If their combined income surpasses $34,000, as much as 85% of their benefits could be taxable. For joint tax filers, these thresholds are set at $32,000 and $44,000, respectively. It’s worth noting that the tax revenue generated from these provisions directly contributes to the trust fund.

Effective starting in 2025, the proposal would eliminate these taxes on Social Security benefits. However, to ensure that the trust fund is not negatively impacted, the proposal includes provisions for transferring funds from the general Treasury to the three trust funds. These transfers would be equivalent to the tax revenue that would have been collected in the absence of this provision.

The SSA’s estimation indicates that implementing this specific provision would have no impact on the long-term actuarial deficit of the OASDI (Old Age, Survivors, and Disability Insurance) program, and it would not affect the annual deficit for the 75th projection year, which is anticipated to be in 2097.

5. Employees with multiple employers would pay taxes via a special formula.

Under the proposed rules, employees who have multiple employers within a tax year would make payroll tax contributions equivalent to what they would have paid if all their earnings for the year came from a single employer.

For instance, consider an employee with earnings of $200,000 from each of two employers. Under the proposed changes, this employee would pay the 6.2% employee payroll tax on earnings up to the taxable maximum specified by current law in 2025 (estimated to be $174,900), as well as on the excess of their total earnings over $250,000.

The SSA’s estimation suggests that implementing these rules would have a substantial impact. It would result in a reduction of the long-term OASDI (Old Age, Survivors, and Disability Insurance) actuarial deficit by 2.31% of taxable payroll and a decrease in the annual deficit for the 75th projection year (2097) by 2.40% of payroll.

6. Trust fund operations would be meaningfully bolstered.

The SSA report contains a multitude of charts illustrating how various aspects of the OASDI (Old Age, Survivors, and Disability Insurance) program will be affected by the proposal. These charts encompass annual costs, income rates, annual balances, and trust fund ratios.

Starting in 2025 and beyond, the proposal leads to improvements in the annual balance, which is calculated as non-interest income minus program cost. This improvement in the annual balance increases gradually, from 1.7% of current-law payroll in 2025 to 2.5% of payroll in 2035. Afterward, it generally decreases but remains at 2.4% of payroll for the year 2097.

Under the proposal, the annual deficit in the OASDI program is projected to be 1.2% of payroll in 2023 and 2.0% in 2024. However, there is a decline in the annual deficit, with it dropping to 0.4% in 2025 and further reducing to 0.3% in 2026. Subsequently, it shows an increase to 2.7% of payroll in 2078, followed by a general decrease, ultimately reaching 1.9% of current-law payroll by the year 2097.