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April 14, 2005
Refer To:   
Robert M. Ball
Stephen C. Goss, Chief Actuary
Estimated OASDI Financial Effects for a Proposal With Six Provisions That Would Improve Social Security Financing—INFORMATION

This memorandum provides estimates for a proposal that you have developed. The attached tables 1 and 2 provide estimates of the effects of the six provisions reflecting both the expected future average return on equities (tables 1) and a low-yield assumption for equities (tables 2). The estimates and descriptions below reflect our understanding of your intent for this proposal. All estimates reflect the intermediate assumptions of the 2004 Trustees Report plus additional assumptions described below. These estimates reflect contributions from many individuals in the Office of the Chief Actuary, particularly Alice Wade, Jason Schultz, Bill Piet, and Chris Chaplain.

The combined effect of the six provisions is expected to eliminate the 75-year long-range actuarial deficit for the OASDI program and leave a significant positive actuarial balance of about 0.65 percent of taxable payroll using the expected equity yield. The ratio of trust fund assets to annual program cost (TFR) is projected to rise consistently throughout the 75-year period. However, the growth in the TFR slows toward the end of the period and annual deficits are gradually increasing, so that some additional "maintenance" of the provisions would eventually be needed after the 75-year period to maintain sustainable solvency. The proposal in fact recommends such further changes in the form of the balancing tax rate. Even in the absence of such maintenance, the Social Security program would be expected to be solvent for several decades beyond the end of the 75-year period.

With the low-yield assumption for equities, the OASDI program would still be projected to be solvent for the 75-year long-range period, but would require larger balancing tax rate increases to achieve sustainable solvency.

Descriptions of Six Provisions

1. Increase the OASDI contribution and benefit base by an additional 2 percent (beyond wage indexing) for years 2006 through 2043. This change is projected to result in 90 percent of OASDI covered earnings being taxable for 2043 and later. About 6 percent of covered workers have earnings above the current-law taxable maximum each year, and would thus be affected by this provision. This provision alone would reduce the OASDI actuarial deficit by an estimated 0.61 percent of payroll.
2. Require that a federal tax be imposed on the value of all estates with assets in excess of $3.5 million for deaths in 2010 and later. The tax would be 45 percent of any assets in excess of $3.5 million, and the tax revenue would be credited entirely to the OASI and DI trust funds. The $3.5 million dollar exemption would be fixed (not indexed) for years after 2010. The levels of the estate tax rate and exemption are equal to those provided in current law for 2009. Under current law, the estate tax would be repealed for 2010, but would be restored with a lower exemption and a higher rate than in effect for 2009. Thus, this provision would effectively redirect a substantial portion of the revenue from the estate tax for years 2011 and later from the general fund of the Treasury to the Social Security trust funds. This provision is projected to reduce the long-range actuarial deficit of the OASDI program by an estimated 0.51 percent of taxable payroll.
3. Gradually invest 20 percent of the OASDI program trust fund assets in equities. In 2006, invest 1 percent of trust fund assets in a broad based indexed fund representing all equities for corporations based in the United States, such as the Wilshire 5000. In each subsequent year, the percentage of trust fund assets invested in equities would be increased by 1 percentage point, until 20 percent of assets are invested in equities, by the end of 2025. This percentage would be maintained thereafter by periodic rebalancing of assets between equities and special obligations of the Treasury. In no case, however, would the trust funds be allowed to hold more than 15 percent of the total value of all equities represented in the broad index.

Subtotal for Provisions 1 through 3--The combined effect of provisions 1 through 3 would reduce the long-range OASDI actuarial deficit from 1.89 percent of payroll by 1.47 percent to a deficit of 0.41 percent of payroll. The resulting actuarial deficit would be less than 5 percent of the long-range summarized cost rate and so the program would meet the test of long-range close actuarial balance with just these provisions.

4. Effective December 2006, base the OASDI COLA on a new CPI-W series that would reflect a superlative formula, of the type currently used for the new "chained" CCPI-U. This provision is assumed to reduce the OASDI annual COLA by an average of 0.22 percentage point. This provision alone would reduce the OASDI actuarial deficit by an estimated 0.35 percent of payroll.
5. Cover under the OASDI program the earnings of all State and local government employees hired in 2009 and later. This provision alone would reduce the OASDI actuarial deficit by an estimated 0.19 percent of payroll.

Subtotal for Provisions 1 through 5--The combined effect of provisions 1 through 5 would improve the long-range OASDI actuarial balance by 1.94 percent of payroll resulting in an estimated positive actuarial balance of 0.05 percent of payroll.

6. Provide for a "balancing tax rate" increase to be effective starting in the first year for which the OASDI combined trust fund ratio (TFR) would otherwise begin to decline under projections reflecting the 5 provisions above, based in the intermediate assumptions of the 2004 Trustees Report. The size of the balancing tax rate increase would be set sufficient to provide for an increasing TFR throughout the 75-year projection period ending with 2078. As shown in table 1, a balancing tax rate increase of 0.5 percent for employers and employees, each, (1 percent for self-employment earnings) would be applied starting in 2023 based on this specification. The incremental effect of this provision on the long-range actuarial balance is projected to be an increase of 0.60 percent of payroll. The proposal would also include a recommendation to future Congresses to adjust the balancing tax rate increase in subsequent years, if needed to continue to maintain a stable or rising TFR.

Total for Provisions 1 through 6--The combined effect of all 6 provisions would be to improve the long-range actuarial balance of the OASDI program by 2.54 percent of payroll to a positive actuarial balance of about 0.65 percent of taxable payroll with expected returns on equities. With a low-yield assumption for equities, equivalent to a risk-adjusted return equal to that assumed for long-term Treasury bonds, the long-range actuarial balance would be expected to be improved by 2.23 percent of payroll to a positive balance of 0.35 percent of payroll.


As stated above, all estimates are based on the intermediate assumptions of the 2004 Trustees Report. However, several additional assumptions were used in these estimates.

Estimates of the effect of the provision to tax estates of individuals dying in 2010 and later were made with the assistance of the Office of Tax Analysis of the Department of the Treasury, which provided guidance on the expected revenue for this provision under current law through 2009. Our estimates are based on the assumption that the combined value of estates for all persons dying in future years will remain at about the same percentage of gross domestic product (GDP) as estimated for 2009. On this basis, and reflecting the fixed exemption and tax rate for this provision, we estimate that revenue to the OASDI program would increase from 0.41 percent of taxable payroll in 2010 to 0.72 percent of payroll by 2078.

The long term average real return on equities of corporations based in the United States is assumed to average about 6.5 percent for investments made in future years, over long periods of time. Historically, total real equity returns have averaged around 7 percent. However, we believe that several factors including a somewhat lower perceived level of risk from equity investment will result in market pricing of equities that is somewhat higher than in the past, on average, and thus in somewhat lower long-term average returns. This lower average real return on equities is also consistent with the somewhat higher future average real interest rate on long-term Treasury bonds (3 percent assumed by the Social Security Trustees) than has been experienced over the long-term past. For trust fund assets invested in equities, an administrative expense of 0.0005 percent (0.5 basis point) is assumed annually.


Trust Fund Operations

Table 1 provides projections of the financial operations of the OASDI program assuming that the proposed six provisions are enacted. With enactment of these six provisions assuming the expected real returns on equities, the year in which the annual cost of the program begins to exceed the annual income would be delayed 9 years, from 2018 under current law, to 2027. The estimated year of combined OASDI Trust Fund exhaustion would be delayed to at least several decades beyond the end of the 75-year long-range period. And if the recommendation of the proposal to provide continued adjustments to the balancing tax rate is followed by future Congresses, then sustainable solvency would be maintained for the foreseeable future.


Table 1a provides estimates of the net annual purchase and sale of equities consistent with the expected return and the specifications for increasing equities to 20 percent of trust fund assets by the end of 2025, and rebalancing assets to maintain that percentage thereafter. Trust fund assets are shown by type: equities, Treasury securities, and total. Projected GDP is also shown. We assume that the total market value of all equities for domestically based corporations will generally be about equal to GDP. Because the trust fund assets held in equities are projected to remain well below 15 percent of GDP throughout the projection period, we assume that the limit on equities at 15 percent of the total market valuation will not be reached. For comparison, the net assets of the theoretical Social Security program where borrowing authority is provided in the law are shown in column 9.

Budget Effects

Table 1b provides projected effects of enactment of the six provisions on the unified budget of the federal government. These projected effects are for the change from the effects that are assumed in standard budget accounting under current law (where scheduled benefits are assumed to be paid in full with revenue from the general fund of the Treasury if needed, even after the trust funds are exhausted.) All estimates reflect the intermediate assumptions of the 2004 Trustees Report, and thus are not directly comparable with budget projections made by OMB and CBO, using different assumptions.

Table 1b provides estimates in present value, with all amounts discounted to January 1, 2004 using the Treasury bond yield on assets held by the trust funds. Table 1b.c provides estimates in constant 2004 dollars.

Purchase of equities for the trust funds is considered to be a budget expenditure. As a result, sale of equities when needed for rebalancing the assets in the trust fund are considered budget receipts. The balancing tax rate represents a budget receipt and thus improves budget cash flow. However, revenue from the estate tax represents an additional budget receipt only for 2010, the only year for which the estate tax would be eliminated under current law.

The change in annual unified budget cash flow is accumulated at the trust fund bond yield to estimate the cumulative effect on federal debt held by the public. The change in the annual unified budget balance reflects both the change in budget cash flow and the interest on the change in the accumulated debt. Purchases of equities are projected to generally result in a reduction (negative effect) on unified budget cash flow through 2013. Thereafter, the effects of the other provisions are projected to dominate, resulting in positive effects. Publicly held debt would be increased through 2020, and reduced substantially thereafter. Annual unified budget balances would be generally worse through 2015, and better thereafter.

Cash Flow from Trust Funds to General Fund

Table 1c provides estimates of the net annual cash flow from the OASDI trust funds to the general fund of the Treasury. A comparison is provided with a theoretical Social Security program where transfers are made from the general fund to the trust funds whenever needed to pay scheduled benefits.

Under current law, cash flow to the general fund changes from positive to negative in 2018, reaching 5.9 percent of payroll by 2078. Under the proposal, cash flow first becomes negative in 2027, and reaches 2.8 percent by 2078. For the 75-year period as a whole, the total net negative cash flow is reduced from $5.2 to $0.4 trillion in present value under the proposal. Present value amounts are computed reflecting the trust fund yield on assets held in Treasury securities.

Change in Unfunded Obligations

Table 1d illustrates the change from a $3.7 trillion present-value unfunded obligation over the 75-year long-range period under current law to a positive balance of $1.5 trillion in present value under the proposal. All values are shown in present value discounted to January 1, 2004 based on the Treasury security yield on trust fund assets. Only in column 7, where equities are assumed to be phased into trust fund asset holdings, does the present-value discounting reflect the overall asset yield assumed for the trust funds, including equity holdings. The table shows that the roughly $5 trillion improvement in the unfunded obligation is the result of $1 trillion from estate tax revenue, $1.5 trillion from the balancing tax rate, $2.2 trillion from the other provisions (excluding equity investment), and $0.4 trillion from equity investment (the difference between columns 6 and 7).

Taxable Payroll

Table 1e provides the projected level of OASDI taxable payroll under present law and under the proposal. The provisions for increasing the contribution and benefit base and for covering newly hired State and local government employees would both increase the amount of earnings subject to payroll tax under the OASDI program.

Sensitivity Analysis

Tables 2 are similar to tables 1, except that the realized real return on equities is assumed to be equal to that on long-term Treasury bonds, 3 percent. In this case, the 1.0-percent total balancing tax rate increase for 2023 and later is not sufficient to attain a stable or rising trust fund as a percent of annual program cost by the end of the period. Thus, while 75-year solvency is expected to be fully restored through 2078, sustainable solvency would require larger balancing tax rate increases. Under this assumption, a balancing tax rate of 1.8 percent total for 2021 and later is expected to meet the proposal goal of a stable or rising TFR at the end of 75 years.


The six-provision proposal is expected to restore solvency for the Social Security program through the next 75 years and for decades thereafter. With the expected equity yields and the specified balancing tax rate increase, trust fund ratios are projected to rise throughout the 75-year period. However, to maintain sustainable solvency, and thus solvency for the foreseeable future, some maintenance of the balancing tax rate is expected to be needed after the end of the 75-year projection period, as recommended in the proposal.

Stephen C. Goss


List of Attached Tables

Table 1a
Table 1b
Table 1b.c
Table 1c
Table 1d
Table 1e
Table 2a
Table 2b
Table 2b.c
Table 2c
Table 2d
Table 2e

List of memos