Barron's - May 16, 2020
Zero inflation sounds like a good thing—unless you’re collecting Social Security.
Rising Medicare premiums combined with flat inflation can be a recipe for the unthinkable—declining Social Security payments for about one-third of recipients.
That's what the economic climate could be cooking up for next year unless Congress intervenes.
Social Security payments are adjusted every year based on inflation. By law, an individual’s benefits can’t decline, even in deflationary times. But Medicare premiums are deducted from monthly Social Security checks: So when Social Security payments don’t get an inflation bump but Medicare gets more costly, millions of retirees could get a smaller monthly check in the mail—for at least a year until cost of living adjustments are made again.
Not all Social Security recipients would be affected. Those with standard Medicare Part B premiums—that’s 70% of retirees—are protected by law from any declines in their Social Security checks even after Medicare premiums are deducted. To keep payments steady when premiums rise faster than Social Security COLA adjustments, Medicare absorbs a portion of premiums.
But for singles earning more than $87,000 and couples filing jointly and earning more than $174,000—about 30% of Social Security recipients—there are no protections against a downward adjustment in payments, says Alicia Munnell, director of the Center for Retirement Research at Boston College.
If inflation adjustments are flat next year, the worst-case scenario is that about 70% of Social Security recipients could see no increase in their monthly checks, while 30% get paid less. (And those higher-income recipients are already paying more tax on their Social Security payments this year, thanks to an increase in the taxable wage base.)
"But there may be some workaround," Munnell says. "In 2016 there was no COLA and Congress stepped in, the Treasury lent the program some money and it worked out so that the 30% didn't see a decrease."
Social Security cost of living adjustments are made based on the change in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) for a one-year period from the third quarter of the prior year. The next adjustment will be based on how much prices were up for the year through September of this year, and will go into effect in January 2021.
COLA adjustments have averaged 1.4% over the last decade.
Given that energy prices have nosedived and key sectors such as airlines and travel have gotten pummeled in the pandemic-prompted economic pullback, it's unlikely that this year's cost of living adjustments will register anything but flat, says David Certner, the legislative policy counsel at AARP. "Unfortunately, other expenses such as health care are likely to rise, which could lead to higher Medicare premiums."
Medicare premiums have been rising in recent years due primarily to steadily rising drug costs. This year's average monthly Medicare premium is $144.60, up from $135.50 in 2019. After a 1.6% inflation adjustment, Social Security monthly benefits rose from $1,479 to $1,503, but the average check was whittled down to $1,493 by the $9.10 Medicare premium increase.
As for the millions of pre-retirees who have lost their jobs this year who may wonder how their future Social Security benefits will be impacted by their unemployment, Munnell says it can depend on where you are in your career.
Benefits are calculated using a formula that factors in your 35 highest working years. Workers in their peak earnings years who get laid off may have to count a lower-income year (or more, depending on when they return to work) in the formula. "It will effect benefits somewhat but not as dramatically as you might think," Munnell says.
By the time your retire, if you haven't clocked 35 years working there will be zeros in the equation that will reduce your benefit, she adds
Younger workers who become unemployed have time to clock 35 years, and their future earnings years are likely to be their highest, so current temporary unemployment probably won't bring down their future benefit.
Possibly a greater concern is the overall health of the Medicare and Social Security systems. Prior to the economic contraction, data showed that trust funds for the programs would dry up by 2026 and 2035 respectively. This means by those dates Medicare would be able to cover 89% of benefits and Social Security, 79%, using primarily revenue from payroll taxes.
"The impact of Covid-19 could change the picture," Munnell says. "It drives home the message that's been made for decades: We need to do something to support these programs. I'm optimistic we can solve this."
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