Tax Reform Converges Fortuitously with Social
Investor's Business Daily
April 12, 2005
By Ernest S. Christian
The president's proposal to modernize Social
Security with "personal retirement accounts" has
much in common with his effort to reform the tax code. So
much, in fact, that it is hard to think about one without
Personal accounts and tax reform both enable more Americans
to gain that special freedom that comes with ownership. Tax
reform stimulates the GDP (and stock market) growth that personal
accounts need for maximum success. Personal accounts offset
a double tax on wage income, and tax reform seeks to eliminate
double taxation of all income. Both reforms help preserve
retirement security for the future.
Because of too few workers and too many retirees, beginning
in 2018 and continuing each year thereafter, FICA payroll
tax receipts will fall short of covering the scheduled annual
payments to retirees.
To make up for these continuing annual shortfalls, the government
will have to start repaying the "debt" it owes to
the trust fund for the trillions of dollars of payroll taxes
it has in past years spent for other purposes.
By 2042, the cumulative shortfall will have used up the
entire amount (plus interest) owed to the trust fund. At that
point, with no more intragovernmental debt to cash in and
with outflows continuing to exceed payroll tax inflows, the
trust fund will be insolvent - unable to meet its obligations
as they become due.
Because the government has already spent the money borrowed
from the trust fund, in order to repay it and thereby keep
the trust fund afloat until 2042, the government must cut
other spending, borrow more money in the public debt market,
or raise taxes - in large amounts.
For example, income tax hikes designed to match the debt
repayment schedule would start in 2018, quickly rise to $500
billion per year and, by 2042, total more than $7 trillion
in today's dollars (or roughly twice that amount in future
dollars devalued by predicted inflation).
The Ponzi scheme nature of traditional Social Security financing
thus far has hidden from public view impending tax increases
of very large proportions. It has also misled the American
people about the taxes they are already paying.
Social Security "trust fund" mythology aside,
the 6.2% OASDI payroll tax extracted from the wage income
of working Americans is fundamentally no different from the
income tax they also pay on that same wage income at progressive
rates that currently range from 10% to 35%. The only real
differences are that the payroll tax is imposed at a flat
rate, applies only to the first $90,000 of wages, and is concentrated
on low- and middle-income people who work.
Something Of Their Own
There once was the mythology that our payroll taxes were
going into a trust fund where they would be held for us until
our old age and then paid back to us as a Social Security
retirement annuity. Of course, as we all now know, that was
The only thing in the trust fund is a stack of government
IOUs to itself. Except for a two step bookkeeping transaction,
payroll taxes go into the Treasury's general fund just like
income taxes and are used to pay the overall costs of government,
ranging from congressional salaries to national defense to
annuities for current retirees.
When understood in this way, which is especially powerful
from the perspective of younger earners, it is obvious that
the president's personal retirement account proposal is primarily
a young American's tax cut combined with a government-sponsored
payroll savings plan.
People who opt into the personal account system will still
have to pay the OASDI payroll tax - but they will, in fact,
be buying something that is their own. They will have a portfolio,
albeit small in the beginning, of stocks and securities that
they can use for retirement or pass on to their heirs.
Outside the Beltway, Social Security and tax reform are
different issues, more readily explained separately than together,
and are likely to remain so while the president builds a grass-roots
constituency for change that is sufficient to overcome congressional
But when the legislative battle actually gets going, it
is almost inevitable that these two historic initiatives will
converge in what promises to be a transformational debate
about fundamentals, including the relative roles of markets
and governments in bettering the human condition. And out
of that debate there is likely to emerge a new social compact
based on economic growth that enables more Americans to climb
the ladder of success.
Personal retirement accounts are a good idea that will make
Social Security both more secure for retirees and more transparent
in accounting to the public for the amount of debt and taxes
If America had had private accounts for the last 50 years
or so, our government either would have had to run greater
on-the-books deficits, openly raised taxes or held down spending.
Everyone would have known what was going on, could have voted
accordingly and there would not now be future "crises"
in the form of potentially massive tax increases after 2018
and trust fund bankruptcy in 2043.
President Bush's personal retirement accounts do not alone
eliminate either crisis. He has, however, taken the right
step in the right direction. And to his everlasting credit,
he has launched a national debate in which the Congress and
the American people, reluctant though they both may be, must
confront and solve the real problems of the "unfunded"
and perhaps "unfundable" entitlement liabilities
that haunt America's future.
Not only will the basic payroll tax soon fall trillions
of dollars short of funding OASDI obligations, the additional
1.45% HI (hospital insurance) payroll tax paid by both employees
and employers is already patently incapable of paying for
the burgeoning costs of Medicare. By 2024 Medicare is projected
to cost more than Social Security, but the separate HI trust
fund is expected to remain solvent only until 2019.
These and other gargantuan charges against the nation's resources
have already been legislated and will, like mortgage payments,
inexorably fall due unless Congress intervenes. But the costs
are obviously far too large to be paid for by government taking
an ever-increasing share of GDP in taxes. (Taxes that high
would stifle the economy in a hurry.)
Therefore, at this point in history this Congress must do
three things for the nation's future. It must modernize and
secure Social Security; it must drastically slow the growth
of middle-class entitlement spending; and it must reform the
tax code in a way that accelerates GDP growth and maximizes
personal savings for all Americans.
Christian is a former Treasury tax official who is director
of the Center For Strategic Tax Reform in Washington, D.C.
He can be reached at email@example.com. The
first four parts of this series appeared on Feb. 1, Feb.
15, March 1 and March 15.