GBA 3 - Module 10

Explain how financially self-supporting social insurance programs are financed.

Financially self-supporting programs are almost completely financed from the earmarked contributions of covered employees, employers and the self-employed and from interest on the trust fund investments.

What is the full retirement age for Social Security retirement benefits? Explain.

For persons born in 1960 or later, the full retirement age is 67. For individuals born before 1960, the full retirement age ranges from 65 to 67.

Which type of employers must provide unemployment benefits?

Most private firms, state and local governments, and nonprofit organizations must provide unemployment benefits. A private firm is subject to the federal unemployment tax if it employs one or more employees in each of at least 20 weeks during the calendar year (or preceding calendar year), or it pays wages of $1,500 or more during a calendar quarter of either year. State and local governments must provide unemployment coverage, although they are not required to pay the federal unemployment tax but instead may elect to reimburse the system for the benefits paid to government employees. In addition, nonprofit charitable, educational and religious organizations are covered if they employ four or more workers for at least one day in each of 20 different weeks during the current or prior year. A nonprofit organization has the right either to pay the unemployment tax or to reimburse the states for the benefits paid.

Identify the categories of persons who are entitled to monthly Social Security retirement benefits.

Persons who are eligible for Social Security retirement benefits are: (a) Retired workers. Monthly retirement benefits can be paid at full retirement age to a fully insured worker. Reduced benefits can be paid as early as the age of 62. (b) Spouses of retired workers. The spouse of a retired worker can also receive monthly benefits if she or he is at least aged 62 and has been married to the retired worker for at least one year. A divorced spouse is also eligible for benefits based on the retired worker's earnings if she or he is at least aged 62 and the marriage lasted at least ten years. (c) Unmarried children younger than the age of 18. Monthly benefits can also be paid to unmarried children of retired workers who are younger than the age of 18 (or 19 if full-time elementary or high school students). (d) Unmarried disabled children. Unmarried disabled children aged 18 or older are also eligible for benefits based on the retired worker's earnings if they were severely disabled before the age of 22 and continue to be disabled. (e) Spouses with dependent children younger than the age of 16. A spouse at any age can receive a monthly benefit if the spouse is caring for an eligible child younger than the age of 16 (or is caring for a child of any age who was disabled before the age of 22) who is receiving a benefit based on the retired worker's earnings. The mother's or father's benefit terminates when the youngest child attains the age of 16 (unless the mother or father is caring for a child who became disabled before the age of 22).

List the changes that have been proposed to reduce the long-range deficit in the OASDI program.

Proposed changes include the following: (a) Use progressive indexing to determine benefits. For purposes of determining the worker's average monthly indexed earnings, a price index rather than a wage index would be used, which results in substantial cost savings. However, the indexing method for lower income groups would still be based on a wage index, as is now the case. As covered earnings increase, a combination of wage and price indexing would be used. For upper-income groups, the indexing method would be based largely on a price index. The overall result would be a substantial reduction in the long-range deficit. (b) Increase the Social Security payroll tax for both employers and employees. (c) Move up scheduled increase in full retirement age, or increase the age beyond the age of 67. (d) Reduce benefits for future retirees across the board. (e) Increase the OASDI taxable wage earnings base to cover a larger percentage of earnings. (f) Make all OASDI benefits subject to the federal income tax (instead of a maximum of 85% as is now the case). (g) Extend OASDI coverage on a compulsory basis to all new state and local government employees. (h) Increase the number of years used in calculating retirement benefits from 35 to 38 years. (i) Invest part of the trust fund assets in private investments, such as common stock. In addition, the general revenues of the federal government could be used to fund part of the program. However, the federal budget is experiencing huge deficits at the present time. Thus, increased reliance on general revenue financing to reduce the long-range deficit is unlikely.

Explain how Social Security benefits are financed.

Social Security benefits are financed by a payroll tax paid by employees, employers and the self-employed; interest income on the trust fund investments; and revenues derived from the taxation of part of the monthly cash benefits. The combined payroll tax rate for both OASDI and Medicare is 7.65%, which is paid by both the employee and employer. The Social Security portion (OASDI) is 6.2% on covered earnings up to the maximum taxable earnings base. The maximum taxable earnings base automatically increases if wages in the national economy increase.

Explain how inflation affects Social Security benefits.

Social Security cash benefits are automatically adjusted each year for changes in the cost of living, which maintains the real purchasing power of the monthly benefits during periods of inflation. Whenever the consumer price index for all urban wage earners and clerical workers on a quarterly basis increases from the third quarter of the previous year to the third quarter of the present year, the benefits are automatically increased by the same percentage for the December benefits (payable in January).

Contrast the concepts of social adequacy and individual equity.

Social adequacy means that the benefits paid should provide a certain standard of living to all contributors. This means that the benefits paid are heavily weighted in favor of certain groups, such as low-income persons, large families and the presently retired aged. In technical terms, the actuarial value of the benefits received by these groups exceeds the actuarial value of their contributions. In contrast, the individual equity principle is followed in private insurance. Individual equity means that contributors receive benefits directly related to their contributions; the actuarial value of the benefits is closely related to the actuarial value of the contributions.

Explain how benefits are related to earnings in social insurance programs.

Social insurance benefits are loosely related to worker earnings. The higher a worker's covered earnings, the greater will be the benefits. The relationship between higher earnings and higher benefits is loose and disproportionate, but it does exist. Thus, some consideration is given to individual equity.

Explain why social insurance programs are deemed necessary in the United States.

Social insurance programs are necessary in the U.S. for several reasons: (a) Social insurance programs are enacted to solve complex social problems. A social problem affects most or all of society and is so serious that direct government intervention is necessary. For example, the Social Security program came into existence because of the Great Depression of the 1930s, when massive unemployment required a direct government attack on economic insecurity. (b) Social insurance programs are necessary because certain risks are difficult to insure privately. For example, unemployment is difficult to insure privately because it does not completely meet the requirements of an insurable risk. However, the risk of unemployment can be insured by state unemployment insurance programs. (c) Social insurance programs provide a base of economic security to the population. Social insurance programs provide a layer of financial protection to most persons against the long-term financial consequences of premature death, old age, occupational and nonoccupational disability, and unemployment.

Explain how beneficiaries are taxed on OASDI benefits.

Some beneficiaries who receive monthly cash benefits must pay an income tax on part of the benefits. The amount of benefits subject to taxation depends on the amount of combined income. Combined income is the sum of adjusted gross income, plus tax-free interest, plus one-half of the worker's Social Security benefits. If the combined income exceeds certain dollar thresholds, some benefits are taxable. The threshold amounts depend on the person's filing status (individual, married with a joint tax return or married with a separate return) and the amount of income. For example, a married person filing a joint tax return will pay no tax on Social Security benefits if the combined income is less than a certain amount but will pay tax on up to 50% of the benefits if income is in a higher bracket and will pay tax on up to 85% of the benefits if income is in an even higher bracket.

Explain briefly how unemployment insurance is financed.

State unemployment insurance programs are financed largely by payroll taxes paid by employers on the covered wages of employees. Three states also require minimal employee contributions. All tax contributions are deposited in the Federal Unemployment Trust Fund. Each state has a separate account, which is credited with the unemployment tax contributions and the state's share of investment income. Unemployment benefits are paid out of each state's account. Experience rating is used by firms with favorable employment records to pay reduced tax rates. The major argument in support of experience rating is that firms have a financial incentive to stabilize their employment.

Identify the categories of family members who are entitled to Social Security survivor benefits.

Survivor benefits can be paid to eligible family members in the following categories: (a) Unmarried children younger than the age of 18. Survivor benefits can be paid to unmarried children younger than the age of 18 (younger than 19 if full-time elementary or high school students). (b) Unmarried disabled children. Unmarried children aged 18 or older who become severely disabled before the age of 22 are eligible for survivor benefits based on the deceased parent's earnings. (c) Surviving spouse with children younger than the age of 16. A widow, widower or surviving divorced spouse is entitled to a monthly benefit if she or he is caring for an eligible child who is younger than the age of 16 (or who became disabled before the age of 22) and is receiving a benefit based on the deceased worker's earnings. The benefits terminate for the surviving spouse when the youngest child reaches the age of 16, or the disabled child dies, marries or is no longer disabled. (d) Surviving spouse aged 60 or older. A surviving spouse aged 60 or older is also eligible for survivor benefits. The deceased worker must be fully insured. A surviving divorced spouse aged 60 or older is also eligible for survivor benefits if the marriage lasted at least ten years. (e) Disabled widow or widower the ages of 50 through 59. A disabled widow, widower or surviving divorced spouse who is aged 50 or older can receive survivor benefits under certain conditions. The benefits can be paid as early as the age of 50 if the widow or widower is disabled and the disability started before or within seven years of the spouse's death. The deceased must be fully insured. (f) Dependent parents. Dependent parents aged 62 and older can also receive survivor benefits based on the deceased's earnings. The deceased worker must be fully insured. (g) Lump-sum death benefit. A lump-sum death benefit of $255 can be paid when a worker dies. The benefit, however, can be paid only if there is an eligible surviving widow, widower or entitled child.

Describe how the earnings test works.

The OASDI program has an earnings test that can result in a reduction or loss of monthly benefits for workers with earned incomes above certain annual limits. The earnings test applies to the following: (a) Beneficiary under full retirement age. If a beneficiary is under full retirement age for the entire year, $1 in benefits will be deducted for each $2 of earnings in excess of the annual limit. (b) Calendar year in which the beneficiary attains full retirement age. The earnings test is liberalized for this age group. In the calendar year in which the beneficiary attains full retirement age, $1 in benefits will be deducted for each $3 of earnings above the annual limit. However, only earnings before the month in which the beneficiary attains full retirement age are counted. (c) Earnings test eliminated after attainment of full retirement age. The earnings test does not apply in and after the month the beneficiary attains full retirement age. Beneficiaries who have reached full retirement age or beyond can earn any amount and receive full OASDI benefits. The earnings test does not apply to investment income, dividends, interest, rents or annuity payments. The purpose of this exception is to encourage private savings and investments to supplement OASDI benefits.

What is the strict definition of disability that individuals must meet to receive Social Security disability benefits?

The Social Security program imposes a strict definition of disability on individuals to receive disability benefits. That is: The worker must have a physical or mental condition that prevents him or her from doing any substantial gainful activity and that is expected to last (or has lasted) at least 12 months or is expected to result in death. The impairment must be so severe that the worker is prevented from doing any substantial gainful work in the national economy. In determining whether a person can do substantial gainful work, his or her age, education, training and work experience can be taken into consideration. If the disabled person cannot work at his or her own occupation but can engage in other substantial gainful work, the disability claim will not be allowed.

Explain how the calculation outlined above supports the adequacy principle and the floor-of-income principle.

The calculation of the monthly benefit supports the adequacy principle because lowincome workers have a much higher percentage of their career-average earnings replaced by Social Security than workers at higher income levels. This is a result of the weighted benefit formula that weights the benefits heavily in favor of low-income groups. The floor-of-income principle is also evident in the calculation because Social Security benefits provide only a floor or a base of income, rather than a full replacement of earnings.

List the characteristics of social insurance programs that distinguish them from other government insurance programs.

The characteristics of social insurance programs that distinguish them from other government insurance programs are: (a) Compulsory programs (b) Floor of income (c) Emphasis on social adequacy rather than individual equity (d) Benefits loosely related to earnings (e) Benefits prescribed by law (f) No means test (g) Full funding unnecessary (h) Financially self-supporting.

Define the concept of a floor of income.

The concept of a floor of income is difficult to define. One extreme view is that the floor of income should be so low as to be virtually nonexistent. Another extreme view is that the social insurance benefit itself should be high enough to provide a comfortable standard of living, so that private insurance benefits would be unnecessary. A more realistic view is that social insurance benefits, when combined with other income and financial assets, should be sufficient for most persons to maintain a reasonable standard of living. Any group whose basic needs are still unmet would be provided for by supplemental public assistance (welfare) benefits.

List the factors that a person should consider when determining when to start Social Security benefits.

The factors that a person should consider when determining when to start Social Security benefits are the present need for income, the individual's state of health, life expectancy, labor force involvement and whether or not there are other assets that yield income.

The depletion of the DI trust fund is a serious problem. The funding shortfall is largely due to the substantial increase in the number of DI beneficiaries receiving benefits. What are the factors that account for most of the increase in the number of individuals receiving DI benefits?

The factors that account for most of the increase in the number of individuals receiving DI benefits are: (a) Growth in the labor force (b) Aging of the population and baby boomers (c) Increased number of women in the labor force (d) Higher recipiency rates for women. Women have caught up with men with respect to the rate of becoming disabled. (e) Higher full retirement age. Increasing the full retirement age means disabled workers are kept on the DI rolls for additional years. (f) Downturns in business cycles lead to surges in DI applications.

Identify the major groups of individuals who are entitled to Social Security disability income (DI) benefits.

The major groups of individuals who are entitled to Social Security disability-income benefits are as follows: (a) Disabled worker. A disabled worker under full retirement age receives a benefit equal to 100% of the primary insurance amount. The worker must meet the definition of disability, be disability insured and satisfy a full five-month waiting period. (b) Spouse of a disabled worker. Benefits can be paid to the spouse of a disabled worker at any age if she or he is caring for a child younger than the age of 16 or a child who became disabled before the age of 22 and is receiving benefits based on the disabled worker's earnings. If no eligible children are present, the spouse must be at least the age of 62 to receive benefits. (c) Unmarried children younger than the age of 18. Disability benefits can be paid to unmarried children younger than the age of 18 (or younger than 19 if a fulltime elementary or high school student). (d) Unmarried disabled children. Unmarried children aged 18 or older who became severely disabled before the age of 22 are also eligible for benefits, based on the disabled worker's earnings.

Summarize the monetary and nonmonetary eligibility requirements an unemployed worker must meet to receive benefits.

The monetary requirements that an unemployed worker must meet to receive benefits are: (a) Earn qualifying wages and employment during the base year. (b) Be able to work and be available for work. (c) Actively seek work. (d) Meet a waiting period. The nonmonetary eligibility requirements that a worker must meet refer to provisions in the law that disqualify certain weeks of unemployment because of actions by the worker who filed the claims. These actions include: (a) Voluntarily quitting without good cause (b) Refusal of suitable work without good cause (c) Discharge for misconduct related to the job (d) Inability or unwillingness to accept full-time work (e) Unemployment because of participation in a labor dispute. The application of these disqualification provisions vary by states.

Outline the steps involved in calculating a person's Social Security retirement benefit.

The monthly retirement benefit is based on the worker's primary insurance amount (PIA), which is the monthly amount paid to a retired worker at full retirement age or to a disabled worker. The PIA, in turn, is based on the worker's average indexed monthly earnings (AIME), which is a method that updates the worker's past earnings based on increases in the average wage in the national economy. A worker's past earnings are adjusted by changes in the average wage index, which brings them up to their approximate equivalent value at the time of retirement or eligibility for other benefits. The indexing of covered wages results in a relatively constant replacement rate so that workers retiring today and in the future will have about the same proportion of their work earnings replaced by Old-Age, Survivors, and Disability Insurance (OASDI) benefits. For persons born after 1928, the highest 35 years of indexed earnings are used to calculate the worker's AIME for retirement benefits. The AIME is then used to determine the worker's primary insurance amount. A weighted benefit formula is then used that weights the benefits heavily in favor of low-income groups.

Describe briefly the three categories of unemployment insurance benefits.

The three categories of unemployment insurance benefits are regular state benefits, extended benefits and temporary emergency unemployment benefits. (1) Regular state benefits. Each state has its own program. A weekly cash benefit is paid for each week of total unemployment. The benefit paid varies with the worker's past wages, within certain minimum and maximum dollar amounts. The majority of states use a formula that pays weekly benefits based on a fraction of the worker's high-quarter wages. Several states also pay a dependent's allowance for certain dependents. In most states, the maximum duration of regular benefits is 26 weeks. (2) Extended benefits (EB). EB are also available to workers who exhaust their regular benefits in states with high unemployment. The basic EB program provides up to 13 additional weeks of benefits in states with high unemployment. Some states have also enacted voluntary programs by which seven additional weeks of EB can be paid during periods of extremely high unemployment. The weekly benefit amount of EB is the same as the regular unemployment compensation benefit. (3) Emergency unemployment compensation. During recessions, millions of unemployed workers exhaust their regular state benefits. In addition, many unemployed workers who exhausted their regular benefits live in states where the unemployment rate is not high enough to trigger additional weeks of benefits under the permanent EB program. To deal with the exhaustion of benefits, Congress on numerous occasions has enacted temporary emergency programs that provided additional weeks of benefits to unemployed workers.

What reasons make it unnecessary that a Social Security program be fully funded?

There are several reasons that make it unnecessary to fully fund the Social Security program. (a) Because the program will operate indefinitely and not terminate in the predictable future, full funding is unnecessary. (b) Because the Social Security program is compulsory, new workers will always enter the program and pay taxes to support it. (c) The federal government can use its taxing and borrowing powers to raise additional revenues if the program has financial problems. (d) From an economic viewpoint, full funding would require substantially higher Social Security taxes, which would be deflationary and cause substantial unemployment. In contrast, private pension plans must emphasize full funding because private pension plans can and do terminate.

List three significant problems in state unemployment insurance programs.

Three significant problems in state unemployment insurance programs are: (1) Only a small proportion of workers receive benefits. (2) Inadequate financing. Many states have relatively low trust fund balances, which has forced them to borrow from their federal unemployment accounts during business recessions. (3) A relatively high percentage of claimants exhaust their regular state unemployment benefits during business recessions.

Explain what a person must do to achieve disability insured status.

To be disability insured, a person must meet two work tests: (1) a recent work test and (2) a duration of work test. The latter test does not require work within a certain period of time. More liberal rules apply to the blind.

Describe the eligibility requirements a disabled worker must meet to receive Social Security disability benefits.

To be eligible for benefits, a disabled worker must meet the following eligibility requirements: (a) Be disability insured (b) Meet a five-month waiting period (c) Satisfy the definition of disability.

Explain Social Security quarters of coverage and how they are earned.

To receive Social Security quarters of coverage (also called credits), a person must have a certain amount of work in covered employment. Credits can be earned any time during the year, and a maximum of four credits can be earned each year. A person receives one credit for each $X of covered earnings. (In 2017, the amount needed for a credit was $1,300.) The amount required to earn one credit automatically increases each year as average wages in the economy rise.

What are the objectives of unemployment insurance programs?

Unemployment insurance programs are federal-state programs that pay weekly cash benefits to workers who are involuntarily unemployed. Each state has its own unemployment insurance program. The objectives of these programs are: (a) Provide cash income during involuntary unemployment (b) Help unemployed workers find jobs (c) Encourage employers to stabilize employment (d) Help stabilize the economy.

Which occupations are covered by Social Security? Explain.

Virtually all private sector employees are covered under Social Security at the present time. Federal civilian employees hired after 1983 are also covered on a compulsory basis. In addition, state and local government employees can be covered by a voluntary agreement between the state and federal government. The majority of state and local government employees are covered. More than nine out of ten workers are working in occupations covered by Social Security.

What is the early retirement age for Social Security benefits? Explain.

Workers and their spouses can retire as early as the age of 62 with actuarial reduced benefits. A person may start receiving benefits as early as the age of 62 irrespective of his or her full retirement age.

Provide three specific advantages compulsory programs have over noncompulsory programs.

A compulsory program has three major advantages. These are: (1) The goal of providing a floor of income to the population can be achieved more easily. (2) Adverse selection is reduced, because both healthy and unhealthy lives are covered. (3) In a large program that is compulsory, fewer random or accidental fluctuations in loss experience are likely to occur, and the necessity of providing margins in contingency reserves is reduced.

Define a means test, and indicate where it is used.

A means test requires applicants to show that their income and financial assets are below certain levels as a condition of benefit eligibility. A means test is used in public assistance. By contrast, applicants for social insurance benefits have a statutory right to benefits if they fulfill certain eligibility requirement

Distinguish between fully insured and currently insured, and explain why this distinction is important.

A person is fully insured if they have 40 credits. They are currently insured if they have earned at least six credits during the last 13 calendar quarters ending with the quarter of death, disability or entitlement to retirement benefits. To be eligible for retirement benefits, a person must be fully insured. (For people born before 1929, fewer credits are required.) Survivor benefits require either a fully insured or currently insured status, although certain survivor benefits require a fully insured status.

Explain how workers can increase their future Social Security benefits by working longer.

A person who works longer can increase his or her benefits in two ways: (1) Each additional year of work adds another year of earnings to his or her Social Security earnings record. Higher lifetime earnings may result in higher benefits when the person retires. (2) A delayed retirement credit is available if a person delays receiving retirement benefits beyond full retirement age. The primary insurance amount will be increased by a certain percentage from the time he or she reaches full retirement age until the start of benefits, or until the age of 70. The delayed credit does not extend past the age of 70. The percentage increase varies depending on the year of birth. For workers born in 1943 or later, the primary insurance amount is increased 8% per year (prorated monthly) for each year of delay beyond full retirement age.