Covid-19 Side Effect: Social Security Retirement Benefits For Boomers Born In 1960 Will Take A Big Hit
By Janet Novack, Forbes Staff, May 22, 2020
Bad news for Sean Penn, RuPaul, Amy Klobuchar, Adam Schiff, and the nearly four million other (still living) Americans born in 1960. Unless Congress acts, the Covid-19 recession will cost them about 9% of their projected Social Security benefits.
Median income workers born in that year, assuming they claim Social Security benefits at the “normal” retirement age of 67, will lose $2,511 a year in annual benefits, calculates Andrew Biggs, an American Enterprise Institute resident scholar, Forbes contributor and former principal deputy commissioner of the Social Security Administration. Assuming those average income workers collect benefits for 18 years, the present value of their lost lifetime benefits would be a hefty $45,859, he figures.
High earners, with their bigger benefits and longer average lives, would see annual benefits claimed at age 67 cut by $4,142 a year and suffer lifetime losses of $86,177 over 23 years. Low earners would lose $1,571 a year or $24,121 over a 13-year life expectancy, Biggs calculates.
“These are people who are walking down the street minding their own business and because of the quirk in the (Social Security benefits) formula are going to take a substantial hit to their benefits,’’ Biggs observes.
The 1960 babies will suffer because of two parts of the complicated (and understandably, little understood) formula used to calculate an American worker’s Social Security retirement benefits. Both parts use something known as the average wage index (AWI)—which is essentially total wages paid in the U.S. in a year, divided by the number of folks issued W-2s reporting wages to the Internal Revenue Service. Since a record number of people were employed early this year, before the pandemic hit, there will be a lot of W-2s going out for 2020. But total wages for this year—what with more than 38 million Americans filing unemployment claims over the last nine weeks—will be way lower than predicted before the pandemic.
The national average wage index (AWI) was $52,146 in 2018. While the official number for 2019 hasn’t yet been released, the Social Security Trustees 2020 Report uses an intermediate forecast of $53,756 for 2019 and $55,642 for 2020. Instead, based on the Congressional Budget Office May 19th updated economic projections, Biggs calculates the 2020 AWI will fall to $50,171—-down 6.7% from 2019 and 9.8% below what was projected.
So why does what (we hope) is a one-year-only drop in AWI hit those turning 60 so hard for their entire retirement? The main reason is that a worker’s basic monthly Social Security benefit (also known as his Primary Insurance Amount) is based on an average of his 35 highest-earning years—-after a crucial adjustment is made. Specifically, the wages he earned (up to the Social Security wage base) in the years before turning 60 are adjusted to the wage index for the year he turns 60. The higher the index the year you turn 60, the bigger the adjustment. Income earned in years after a recipient turns 60 gets no adjustment, although for those who work full time past 60, such late-career earnings often count as one of the 35 highest years.
A second, albeit smaller, impact of AWI comes from how the Social Security formula is designed to replace a higher percentage of income for low wage workers than for high earners. The worker’s average over the 35 years is divided by 12 to get a monthly amount and then declining replacement rates are applied. The point at which the replacement rate drops is known as the “bend” point. For example, for those turning 62 this year, the first $960 of income a month is replaced at a 90% rate; earnings from $961 through $5,785 are replaced at a 32% rate; and earnings above $5,785 are replaced at a rate of just 15%. When those born in 1960 turn 62, the AWI from 2020 will reduce those bend points, meaning fewer dollars of their earnings will benefit from a higher replacement rate.
The point of these two AWI adjustments is to make sure an average earner has about 40% of his pre-retirement income replaced, Biggs explains. Except that won’t happen for those born in 1960 because of the dramatic layoffs that followed the business closings and stay-at-home orders designed to slow the coronavirus’ spread.
So what can all those Marys and Davids (the top baby names in 1960) do to protect their retirements? In addition to working longer, saving more and living more frugally to make up for the Social Security income loss, they can lobby Congress for a legislative fix.
One possible fix, Biggs says, would be to calculate the AWI for 2020 based only on the first quarter. Another approach, he suggests, would be a provision specifying that in years when the AWI drops, the previous year’s AWI will be used and will continue to be used until a new AWI exceeds it. Indeed, a similar “hold harmless” scheme is used in determining Social Security cost of living adjustments based on the consumer price index. When the CPI declines, Social Security recipients don’t get a COLA, but their benefits are not cut. With this approach, the 1960 babies wouldn’t get the 3.5% increase that had been predicted for the AWI in 2020, but they wouldn’t have lower benefits than boomers born the year before.
An advantage of simply freezing the AWI, Biggs notes, is that Social Security’s wage base—the maximum amount of salary or self-employment income subject to Social Security taxes—is also tied to the AWI. Maximum taxable earnings this year are $137,700; Social Security had been predicting the max would grow to $141,900 in 2021 and $147,000 in 2022. Instead, the wage base will shrink to $132,485 in January 2022, Biggs figures. (The wage base adjustment lags a year, just as the reporting of the AWI does.) Freezing the AWI would keep the wage base from dropping, defraying a small part of the cost of protecting the 1960 babies from the retirement income hit.
Such a Congressional fix is hardly assured, however, as the saga of the “notch babies” shows. When Congress passed the CPI adjustment to Social Security in 1972 it made a drafting error that resulted in benefits rising faster than inflation. When the pols finally corrected their mistake in 1977, they decided that those born between 1910 and 1916 would be allowed to keep the unintended windfall, and that benefits for those born from 1917 through 1921 (who were then nearing retirement age) would be inflation-adjusted using a special transitional formula which gave them less of a windfall than their elders, but more than those born from 1922 on. For years, “notch babies” born from 1917 through 1921 lobbied unsuccessfully to get the full windfall, insisting they’d been treated unfairly.
But Biggs says the 1960 babies have a better case than the notch babies ever did, since the notchers were fighting for a windfall Congress never meant to give them. The 1960 babies, by contrast, can argue that they were hit by a formula glitch Congress never anticipated.