Social Security Explained – Part 3 of 5

Why Full Retirement Age Increased—and Could It Increase Again?

When Social Security was created in 1935, the concept of retirement looked very different than it does today. Americans generally retired later, life expectancy was significantly shorter, and relatively few people spent decades collecting retirement benefits.

Fast forward 90 years, and Americans are living longer than ever before. While this is certainly positive news, it also creates one of the greatest financial challenges facing the Social Security system.

One of the primary ways Congress has responded to this challenge has been by increasing the Full Retirement Age (FRA)—the age at which workers become eligible for their full, unreduced Social Security retirement benefit.

In this third installment of our five-part Social Security series, we’ll examine why the Full Retirement Age was originally set at 65, why Congress later increased it, and why many experts believe it could increase again in the future.

The Birth of Social Security

The Social Security Act was signed into law on August 14, 1935, by President Franklin D. Roosevelt as one of the cornerstone programs of the New Deal.

The United States was still recovering from the Great Depression. Millions of older Americans had little or no retirement savings, private pensions were uncommon, and many elderly individuals depended entirely on family members for financial support.

Social Security was designed to provide a basic level of retirement income rather than replace a worker’s entire paycheck.

One of the most important decisions lawmakers faced was determining when retirement benefits should begin.

Congress ultimately selected age 65 as the Full Retirement Age.

Why Age 65?

Many people assume the government simply chose age 65 because few people lived that long.

While life expectancy was certainly lower in the 1930s than today, that explanation oversimplifies the decision.

Age 65 had already become a common retirement age in Europe. Germany introduced one of the first national retirement systems in the late 1800s using age 65, and many private pension plans had adopted the same standard.

In addition, Congress wanted an age that balanced two competing objectives:

·       Providing meaningful retirement security.

·       Keeping the new program financially sustainable.

At the time, relatively few workers collected benefits for 20 or 30 years.

Life Expectancy Then vs. Now

One of the strongest arguments for increasing the Full Retirement Age is that Americans are living longer.

When Social Security was enacted:

·       Life expectancy at birth was approximately 59 years for men.

·       Life expectancy at birth was approximately 63 years for women.

Those numbers can be misleading because they include infant mortality and deaths during childhood, which were much more common in the 1930s.

A person who reached age 65 in 1940 could expect to live several additional years. Still, today’s retirees generally spend much longer collecting benefits than earlier generations.

Today:

·       Many Americans live well into their 80s.

·       Living into one’s 90s is no longer uncommon.

·       Married couples have a meaningful probability that one spouse will live beyond age 90.

As life expectancy has increased, the average length of retirement has also increased.

Common Misconception

Many people believe Social Security was designed to provide retirement income for 25 or 30 years.

In reality, the program was created at a time when considerably fewer retirees spent multiple decades collecting benefits. Longer life expectancies have significantly increased the cost of providing lifetime retirement benefits.

The 1983 Social Security Crisis

By the early 1980s, Social Security faced one of the most serious financial crises in its history.

Without legislative action, the program was at risk of not having enough money to pay full benefits.

To address the problem, President Ronald Reagan and congressional leaders created the National Commission on Social Security Reform, chaired by economist Alan Greenspan.

The Commission recommended a series of bipartisan reforms that became the Social Security Amendments of 1983.

Those reforms included:

·       Gradually increasing the Full Retirement Age from 65 to 67.

·       Subjecting a portion of Social Security benefits to federal income tax for higher-income retirees.

·       Increasing payroll tax revenues.

·       Covering newly hired federal employees under Social Security.

·       Gradually increasing delayed retirement credits.

Many experts believe these reforms extended the life of the Social Security system for decades.

How the Full Retirement Age Changed

The increase was intentionally phased in slowly.

Because the changes occurred gradually, workers had many years to adjust their retirement plans.

Why the Full Retirement Age Matters

Many people think the Full Retirement Age only affects when they receive their full benefit.

In reality, it also affects the reduction applied if benefits are claimed early.

For someone with a Full Retirement Age of 67:

·       Claiming at age 62 generally results in about a 30% permanent reduction in monthly benefits.

By comparison, when the Full Retirement Age was 65, the reduction for claiming at 62 was smaller.

In other words, increasing the Full Retirement Age effectively reduced lifetime benefits for many workers who continued to claim at age 62.

The Social Security Trust Fund Challenge

Although Social Security continues to collect payroll taxes every day, demographic changes have placed increasing financial pressure on the system.

Several factors contribute to the challenge:

·       Americans are living longer.

·       The Baby Boom generation is retiring.

·       Birth rates have declined.

·       There are fewer workers supporting each retiree than in previous decades.

According to the most recent Social Security Trustees Report, the Old-Age and Survivors Insurance (OASI) Trust Fund is projected to be depleted in the early 2030s if Congress takes no action. Even then, ongoing payroll tax revenue would continue to fund a substantial portion of scheduled benefits, but not all of them.

This is why policymakers continue to debate potential reforms.

Possible Solutions

No single proposal is likely to solve the funding shortfall on its own. Instead, Congress may ultimately adopt a combination of changes.

Raise the Full Retirement Age

Increasing the FRA to 68, 69, or even 70 would reduce lifetime benefits and encourage longer workforce participation.

Pros

·       Improves long-term finances.

·       Reflects longer life expectancy.

·       Encourages additional workforce participation.

Cons

·       Represents a benefit reduction.

·       Harder on workers in physically demanding occupations.

·       May disproportionately affect lower-income workers with shorter life expectancies.

Raise the Earliest Claiming Age

Today, retirement benefits can begin as early as age 62.

Some proposals would increase that age to 63, 64, or higher.

Supporters argue this would strengthen the system.

Critics note that workers forced to retire because of health problems or physically demanding jobs may have few alternatives if early benefits are delayed.

Increase Payroll Taxes

Employees and employers currently each contribute 6.2% of wages toward Social Security, up to the annual wage base.

Increasing payroll tax rates would generate additional revenue.

The downside is higher taxes on today’s workers and businesses.

Increase or Eliminate the Payroll Tax Wage Cap

Each year, earnings above the Social Security wage base are not subject to Social Security payroll taxes.

Some proposals would increase or eliminate that cap for higher-income workers.

Supporters argue this would strengthen Social Security without affecting most workers.

Critics argue it could weaken the connection between contributions and benefits while increasing tax burdens on higher earners.

Means Testing

Another proposal would reduce benefits for retirees with higher incomes or substantial assets.

Supporters argue benefits should be focused on retirees with greater financial need.

Opponents believe this would fundamentally change Social Security from an earned benefit into more of a welfare program.

Reduce Benefits

Congress could reduce future benefit formulas for younger workers while protecting current retirees.

This would improve long-term finances but would likely be politically unpopular.

Encourage Economic Growth and Workforce Expansion

Policies that increase employment, wages, labor force participation, or legal immigration could increase payroll tax revenue and improve Social Security’s finances over time.

While these approaches may not solve the problem alone, they could be part of a broader solution.

Planning Tip

Major changes to Social Security are typically phased in over many years. If you are already retired or close to retirement, any future reforms are more likely to affect younger workers than current beneficiaries. Even so, it’s wise to stay informed and incorporate flexibility into your long-term retirement plan.

CFP® Perspective

One question I’m asked frequently is, “Will Social Security still be there when I retire?”

My answer is yes—but it may not look exactly the same.

Historically, Congress has acted when Social Security faced financial challenges. While future reforms are likely, they have generally been implemented gradually to give workers time to adjust. I believe it’s reasonable for younger workers to expect changes, whether through a higher retirement age, additional payroll taxes, or adjustments to future benefits.

The most important takeaway is not to build your retirement plan around assumptions that today’s rules will remain unchanged forever. A flexible plan that can adapt to future legislative changes is far more valuable than one that depends on a single outcome.

Key Takeaways

·       Social Security was created in 1935 under President Franklin D. Roosevelt.

·       The original Full Retirement Age was 65.

·       Longer life expectancies have increased the number of years retirees collect benefits.

·       The 1983 Social Security Amendments, signed by President Ronald Reagan, gradually increased the Full Retirement Age to 67.

·       Raising the Full Retirement Age effectively reduces lifetime benefits for many workers who claim early.

·       Several proposals—including raising the Full Retirement Age again—continue to be discussed as lawmakers consider ways to strengthen Social Security’s long-term finances.

Coming Next Week

Social Security Explained – Part 4

Divorced Spouse and Survivor Benefits: The Social Security Rules Many People Overlook

We’ll explore one of the most misunderstood areas of Social Security, including the 10-year marriage rule, remarriage before and after age 60, survivor benefits, and strategies that could significantly increase retirement income for divorced individuals.

How Otium Financial Planners Can Help

Social Security claiming decisions are about much more than choosing a retirement age. They involve coordinating retirement income, taxes, investments, longevity planning, and family circumstances. At Otium Financial Planners, we help clients evaluate these decisions as part of a comprehensive financial plan so they can make informed choices with confidence.

If you’d like to discuss how Social Security fits into your retirement strategy, we’d welcome the opportunity to meet with you.