DEPARTMENT OF HEALTH & HUMAN SERVICES Social Sacurity Administration

S3NL

Date: 

'December 8, 1993

Stephen C. Goss

Supervisory Act.uary

From:

Subjecr: Long-Range OASDI Financial Effect of Two Options to Adjust

the Concord Coalition Means Test--INFORMATION

To: Harry Ballantlme

Chief Actuary

Estimates of the effect on the OASDI, HI, and SMI programs of

the rrmeansrr Lest proposed in the ttZero Deficit P1an" of the

Concord Coalition were described in memoranda from Goss,

Donkar, and McKay on November l-8, 1993. Last week Principal

Deputy Commissioner Lawrence Thompson reguested estimates for

a modified version of the 'rmeans'r test that woul-d better

foIlow the apparent intent of Pete Peterson as stat.ed on page

275 of his book Facinq Up. Mr. Peterson states that "Under my

affluence test, the 15 percent share of each family's benefits

that is not subject to withholding wil-l ensure that even

today's sixty-five-year-o1d retired millionaire enjoys a

/roenanlable) 

\ a vvrev 3.5 percent tax-free return on all Social

Security FICA taxes he or she personally paid into the system.

But there will be no windfal-I. " He t.hus suggests that. the

test does not, and presumably should not, reduce benefj-ts

below a fair return on contributions.

fn fact, the ratio of (1) the present value of expected OASDI

benefits to (2) the present value of expected OASDI employee

payroll tax contributions is 257 percentl for males with

steady high earnings who retired at age 55 in 1985. For such

retirees with sufficiently high family income that OASDI

benefits would be reduced by 85 percent under the means test,

this "money's worLh'r ratio would drop to 39 percent (257 x

.l-5). Present values for these ratios are based on the actual

yields received on securities held by the OASf and Df trust

frrnrlc 'vhich are Federal securities with long-term "risk-free" - s-.$s, r

rates that averaged nearly 8 percent per year in nominal

t-ermq and about 2.5 percent per year in real terms over the

past 30 years. Thus, the 3.5 percent return that Mr. Peterson

cites is less than half the rate of return for conservative

invesLment j-n long-term UniLed States Government securities

over the past 30 years. Wit.h a return of only 39 percent of

the amount that would have accumul-ated at 'rTrust.-Fund"

j-nterest rates, it is difficult to argue that the steady high

earner who incurs an 85 percent reduction is receiving a fair

lBenefits after 1983

free. AlL benefits that

subject. to income Lax on

are, of course, tax deferred, not tax

are not eliminat.ed by the means test are

the same basis as under current law.

lt/

Refer to Memorandum

t;
z

return. For similar high earners reaching 65 after 1985,

money's worth ratios under present law are much lower, and

thus t.he effect of the Concord means test would r:roduce even

lower returns

The question of whether a fair reLurn should be based on the

accumul-ated value of payroll tax contributions of both the

employer and employee, oy on contributions of the employee

al qlvrru one . i s rrnr:esol-vab1e. Cerf.ai nl v the Fmn'l r^rrrer cnni-r:ibutions I L e

are considered a part of employee compensat.ion by the

amnlrxrer. and in the CaSe Of the Self -eF^ln.'ai l'rnf l'r urrrl/rvJ ur 

, ShafeS

are paid directly by the worker.

Without attempting to resofve t.his long-standing debate, the

analysis that fol-lows reflects two possible options for

adiustincr fhe basic Concord "means" Lest that avoid reduct.ion

of OASDI benefits below a "reasonable returntr on either

employer and employee contributions (option A), or employee

contributions only (option B) .

The adjusted means tests are assumed to be appfied by first

computing reductj-ons for all- entitlements based on the basic

Concord p1an. The ratio of total- reduction to total

entitfements is then computed. This ratio of reduction i s

applied to all entitl-ements except for OASDI benefits. For

OASDI benefits, the family is paid the higher of (1) OASDI

benefits multiplied by the ratio of reduction, or (2) the

amount that would yield a lifetime return on either employee

plus employer contributions (option A), or employee

contributions only (option B), equivalent to the yield o n

trust fund securities (an ultimate 2.3 percent real interest

rate is assumed), but in no case more t.han the present law

benefit.

Effect. of Ad-justed Means Tests

Option A: No reduction bel-ow fair return on ee + er

contributions

Because money's worth ratios (PV of benefits to e e

contributions) are wel-l above 2OO percent for the vast

majority of current beneficiaries, the initial effect o f

limiting the Concord proposal in the manner outlined for the

option A adjusted means t.est. woul-d reduce the estimated

savings relatively littl-e (the reduction in oASDHSMf savings

is estimated to be about 15 percent, or about a 25 percent

reduction in savings from means testing OASDI benefits, see

memorandum from Eli Donkar of December 2, 1993).

For more distant future years, however, money's worth ratios

drop due to increases in contribution rates over the past

decades. As a resuft, option A saves a far smal-Ier
3

proportion of the amount saved by the unrest.ricted Concord

t.est. By 2030, the adjusted test would reduce OASDHSMI savings

by over one-fourth (from savings of about 3.7 percent. of

taxable payroll to savings of about 2.7 percent of taxabld

payroll), and OASDI savings by about 70 percent (from savings

of about 7.6 percent of t.axabl-e payroll to savings of about.

0.5 percent of taxable payroll).

For the long-range 75-year valuation period, savings under the

unrestricted Concord plan for OASDHSMI combined would drop

from 3.4 percent of taxable payroll to 2.5 percent of taxabl_e

payrolJ-. For the OASDf program, the savings drop from

L.6 percent of payroll to 0.5 percent of payro11. Thus, while

the unrestricted plan would el-iminate the long-range actuarial

deficit of 1-.46 percent of taxable payroll (estimated using

intermediat.e alt.ernative II assumptions in the 1,993 Trustees

Report), the option A adjusted means test that guarantees noL

to reduce benefits bel,ow a fair return ee and er contributions

would eliminate only about one-third of the deficit.

Option B: No reduction below fair return on ee contribut.ions

Because money's wort.h ratios (PV of benefits to ee

contributions) are very much above 100 percent for the vasL

majority of current beneficiaries, the initial effect of

limiting the Concord proposal in t.he manner outlined for the

r^rnl- ir'rn P, :dirrglgd means LeSt woul-d reduCe the estimated

savings by even less than option A.

For more distant future years declining money's worth rat.ios

result in savings, under option B, that are a much larger

proportion of the amount saved by the unrestrict.ed Concord

test than was t.he case for option A. By 2030, t.he adjusted

test would reduce OASDHSMI savings by over one-seventh (from

savings of about 3.7 percent of taxabl-e payroll to savings o f

about 3.3 percent of t.axable payroll), and OASDI savings b y

about 25 percent (from savings of about 1.6 percent of taxable

payroll to savings of about 7.2 percent of taxable payroll).

For the long-range 75-year valuation period, savings under the

unrestricted Concord plan for OASDHSMI combined would drop

from a.4 nerrlent Of taxable nevroll f n ? 'l nernon+- nf 

- _v"1 taxable

payroIl. For the OASDI program, the savings drop from

1 6 rrerr-anl- nf narzrn'lI l-n 1 ) rrarr-onf nf narrrnl'l Thrrq urhiIa y"r- 

, wrrrrv

the unrestrict.ed plan woul-d eliminate the long-range actuarialdeficit of 7.46 percent of taxable payroll (estimated using

intermediate al-ternative II assumptions in the 1993 Trustees

Report), the option B adjusted means test that guarantees not

to reduce benefits below a fair return ee contributions woul-d

eliminate about 80 percent of the deficit.
4

Effect on Trust-Fund Buil-dup

The combined OASI and Df trust funds are estimated to rise to

a peak of 3 .0 times t.he level of annual expenditures in th:e '

year 20L5. The option A adjusted means test would result. in

even more trust-fund buildup with a peak of about.3.8 times

annual- expendit.ures reached around t.he year 2017. The year of

exhaustion for the combined funds would increase by about

9 years, from the year 2036 est.j-mated under current law to

about 2045. The option B adjusted means test would increase

the peak trust-fund buildup to a peak of over 4 times annual

outgo around the year 2020.

Money' s Worth Anal-vsis

Table I, attached, is very similar to the Labl-e included i n

the memorandum of November 18. Tabl-e 1 indicates the extent to

which money's worth ratios2 for current beneficiaries in the

year 2030 would be affected by enactment of the basic Concord

means test.. About. 60 percent of st.eady-high-earning single

workers would be reduced to some extent, only about 40 percent

of steady-average earners and about. 20 percent of low earners.

Larger percentages of married workers with spouse not working

(married, 1 earner) woul-d be reduced by the means test because

family income aft.er retirement tends to be higher for 1-earner

couples than for single individuals.

The option A adjusted means test. provides that benefits willnot be reduced befow a fair return on employee and employer

contrj-butions, i.e., the money's worth ratio will not b e

reduced below 200 percenL. As shown in table 1A, this option

would result in no reductions for the steady high earners and

steady-average-earning single workers, because their money's

worth ratios are already at or bel-ow 200 percent under present

1^.. m1-..^ -ha nnl- inn A _arlirrqf ed f aqf 1,'lri*-i-a'l . , law. lnus / L^^- Jltrmacery saves

rel,atively 1ittle, and the savings retained are borne largely

by middle and low earners.

The option B adjusted means test provides that benefits will

not be reduced below a fair ret.urn on employee contributions

only, i.e. , the money's worth ratio will not be reduced bel-ow

100 percent. As shown in table 18, this option would resul-t

in some reduction in benefits for most steady maximum earners.

The extent of the reduction would be l-ess under the opti-on

(as compared with that. under the unrestricted Concord means

test) for about 30 percent of steady maximum earners, but only

zThe money's worth ratio is defined as the ratio of the

present value of expected OASDI benefits to the present val-ue o f

expected employee OASDI payroll-tax contributions for all persons

in the defined cohort.
5

for about 10 percent of steady average or l-ow earners.

Moreover, the extent to which benefit reductions under the

unrestricted Concord test would be cut by opt.ion B would be

much greater for steady maximum workers. For example, benef.it

reductions under the Concord plan as high as 85 percent

(yielding money's worth ratios of about 20 and 30 percent for

single and married workers, respectively) would be cut to only

about 1-O percent for single workers and 50 percent for married

workers with steady maximum earnings and very high income

after retirement. Reductions provided by the adjust.ed means

test wou1d generally be wel-l- over hal-f the size of the

reduction provided under the Concord plan for steady average

and steady Iow earners.

At.tachment.s

Goss

AaJ-rr:rrz

(-)
Table 1

Present Val-ue of OASDI Benefits as a percentage of

Present Val-ue of Employee Contributions with

Steady Earnings for Current Beneficiaries in 2030:

Percentage under Current Law and Percentage at Selected

Percentiles with The Concord CoaLition 'Means" Test

Sincrle

Current Law

Concord rrMeans" Test 1 /

Percentile

Low

Earnings

2202

220

220

zzu

200

50

Average

Earnings

7502

150

150

160

140

q n

300?

300

300

295

250

6 0

Maxi-mum

Earnings

11 0?

110

110

105

B 5

z v

2002

195

160

1-4 0

6 0

3 0

2 0

4 0

5 0

8 0

9 5

Married (f earner)

Concord rrMeans" Test 1 /

Percent.ile

Current Law

20

40

50

BO

95

4072

401

401

401

5 t u

]-20

1,/ Estimates of the effects of the Concord ilMeansn Test o n

single workers and couples are based on a number of

simplifying assumptions required to adapt. availabl-e data. The

results should be l-ooked upon as only an indication of the

likely effect and not as precise estimates.

Office of the Actuary

Sociaf Security Administration

November 18, 7993

TJ
Table 1A

Present Value of OASDf Benefits as a Percentage of

Present Value of Employee Contributions with

Steady Earnings for Current Beneficiaries tn 2030:

Percentage under Current Law and Percentage at Selected

Percentiles with The Concord Coalition rrMeansrr Test.

Adjusted to Avoid Reduction Bel-ow a Fair Return on

Employee and Employer ConLributions

Adjusted "Means" Test 1 /

Percent. iIe

.Si nql e

Current Law

20

40

50

80

95

Married (1 earner)

Low

Earnings

220'6

220

220

220

200

200

Average

Earnings

160?

160

150

150

150

150

300?

300

300

295

250

200

Maximum

Earnings

110 ?

Current Law 40LZ

Adjusted "Means" Test 1 /

Percentlle

110

110

110

110

110

200%

200

200

200

200

200

test o n

data. The

of the

20

40

60

BO

95

401

401

40r

370

200

f/ Estimates of the effects of the adjusted "means"

single workers and couples are based on a number of

-'i -^1 -i €.ri -^ -qqrrmrrf i nnq r6ryrri --^ t-^ :rlant_ =rr-.i'l al-1 ^ DrlltPJ--L]-yrll:j aJDurrrt/Lrvrrr ruqu-Ltt:u L\J aUAPU d.Vcl-L-LctIJJ-C

results should be looked upon as only an indication

l-ikelv effect and not as Drecise estimates.

Office of the Actuary

Social Securi-ty AdminisLration

Tlcr-emhcr R 1993
Table 18

Present Val-ue of OASDI Benefits as a Percent.age of

Present Value of Employee Cont.ributions with

Steady Earnings for Current Beneficiaries in 2030:

Percentage under Current Law and Percentage at Sel-ected

Percentiles with the Concord Coalition "Means" Test

Adjusted to Avoid Reduction Below a Fair Return on

Employee Contributions

Sincrle

Low

Earnings

2202

220

220

zzv

200

100

Average

Earnings

]-602

r_5 0

160

.LOU

740

100

300?

300

300

295

254

100

Maximum

Earnings

r_10?

r_ 10

t- 10

t_u5

100

100

2002

195

160

140

100

100

Current Law

(

Adjusted "Means" Test 1 /

Percentile

2 0

4 0

5 0

8 0

9 5

Married (1 earner)

Current Law 401-z

Ariirrqfarl llMa^hqll 'l-pqf 1 /

Percent. ile

z v

4 0

6 0

B O

9 5

401

40r

401

3 t u

720

L/ Estimates of the effects of the adjusted "means" test on

single workers and couples are based on a number of

simplifying assumptions required to adapt. availabl-e data. The

results should be looked upon as only an indication of the

likety effect and not as precise estimates.

Office of the Actuary

Social Security Administration

l)a.'Fmf\Fr Fl v t 1993
'laDre 2

Estimated OASDI and Medicare Long-Range Financial Effects

under t.he Concord Coalition Means Test and

Two Options for Adiustinq the Test

Basic

Concord

Means

IgDL rlnrtnn A

ca nn'l r z

Option B

Adiustments to the Test.

No reduction below fair

return on contributions :

Estimated Change in

Cost as a Percentage

of Taxable Payroll:

For the Year 2030--

OASDI

Medicare

Total

For 19 93 -206'7 - -

OASDI

Medicare

'1'ot a-L

1.

2.

3.

6 %

1

0.

2.

z -

5Z

z

1 .

2 .

{

2Z

-L

3

1.6

-L.tJ

3.4

0.5

L.9

2.5

r-z

'lo

Note: The above estimates are made using a number of

approximations required due to the naLure of available data.

These estimates should be viewed as indicaLions of the effect

these proposals would have. A11 estj-mates are based on the

intermediat.e alternative II assumptions of the L993 Trustees

Pann rl_ q

Office of the Act.uary

Social Security Administration

f)cr-cmhcr R. 1993

TJ