Social Security Is a Terrible Investment

(Mises Institute) Social Security, the primary retirement savings tool and biggest tax for millions of Americans, is a bad deal, critics contend.

They argue that mandatory Social Security is a poor investment because it only provides an average annual income of some $17,000. This is a lousy return on the decades of tax payments, critics contend. They say most would obtain superior returns with private investments.

“Americans would be better off keeping their payroll tax contributions and putting them into private retirement accounts than having to sacrifice them to the government’s broken Social Security system,” according to “Is Social Security Worth Its Cost?,” a study by the Heritage Foundation.

Social Security officials reply that the program provides value because it includes disability as well as retirement income coverage. They question how well the average person would do with a private retirement account…

The average Social Security recipient receives some $1,461 a month, although most now pay a tax on these payments. They were untaxed until the 1980s, when the program faced a funding crisis.

The Heritage Foundation found that many workers paying into the program end up with a negative annual rate of return, somewhere between minus –0.04 and –14.53 percent depending on one’s age. Younger workers with the most years to pay into the system and groups with below-average lifespans are the ones who have the poorest returns, a Heritage Foundation official says.

“We are telling young people to put money into this program that guarantees zero or negative returns,” says Rachel Greszler, one of the authors of the report.

Greszler notes that this is in comparison to a 4.76 percent annual return for those who have conservatively invested: half in large cap (capitalization) stocks, half in government bonds, and assuming an expense ratio of 0.7 percent. Greszler concedes that the long-term results of private investments are likely better than 4.76 percent. “We wanted to use a conservative investing model,” she says.

Indeed, long-term stock returns are just under 10 percent a year according to the book Stocks for the Long Run. Bonds usually earn between 2 and 5 percent a year depending on the kind of bond and its term.

And in fact the Heritage Foundation study slightly overstated Social Security’s returns, because it only included those aged 66 and above, and only those who live long enough to collect full benefits. The numbers would have been smaller if they had averaged in those who die before age 66 and receive little or nothing in retirement benefits…

Charles Hughes, a longtime advisor in Bay Shore, New York, who writes many retirement plans, warns that “if a client is expecting to get most of his income from Social Security, then there is very little I can do to help them achieve a secure retirement.”

Social Security itself, of course, should never be confused with a real trust fund, or a real saving or investment program, as can be seen in the program’s dicey trust fund accounting identified by economist Murray Rothbard about a half century ago:

For the government does not invest the funds it takes in taxes, it simply spends them, giving itself bonds, which must be later cashed when the benefits fall due. How will the cash be then obtained? Only from further taxation and or inflation.

A Program in Trouble

But beyond the debate over private accounts, almost everyone agrees on this: the current Social Security system is in the red—today more is paid out than is paid in, a deficit that is expected to get worse as people live longer and birthrates decline—and Congress must act over the next fifteen years. Benefits must either be reduced or taxes raised again, or the system’s two trust funds will reduce payments by about a quarter.

The Social Security Trustees project that the retirement and disability funds, “will be depleted in 2035.”

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