Should Your Plan Anticipate Future Social Security Benefit Cuts?

In
light of the recent release of the 2025 OASDI Trustees Report, there
has been considerable news concerning Social Security’s financial status
and the possibility that if Congress does not act prior to the
projected exhaustion of the trust fund (2033 for OASI and 2034 for
OASDI), benefits may effectively be reduced in the first full year of
trust fund exhaustion by about 20% (for OASDI) or about 23% (for OASI).
Reductions could increase in subsequent years absent any action by
Congress. 

It should be noted that these dates are projected dates
of trust fund exhaustion based on intermediate assumptions and assume
no intervening action by Congress. An actual trust fund exhaustion date
(and associated amounts of across-the-board cuts) could differ based on
actual future experience and whether the DI and OASI funds are merged or
not. Of course, if Congress acts prior to the anticipated date of trust
fund exhaustion, any enacted benefit cuts at that time may not be
across-the-board and would, most likely, be mitigated to a significant
degree by enacted tax increases (or other new sources of revenue).
However, if enacted cuts are not across-the-board in nature, they could
be higher for individuals with higher levels of income. 

Will
Congress take action prior to the projected trust fund exhaustion date
to address the system’s short-term and long-term financial problems? If
so, what tax and benefit provisions will Congress enact at that time?
Will the benefits of some groups of Social Security beneficiaries or
near beneficiaries be grandfathered? We don’t know the answers to these
questions.

In light of these uncertainties, how should retirees
plan for the future? Should they assume that their benefits under
current law will remain unchanged, or should they assume they will be
reduced? And if more prudent retirees want to plan for reduced benefits,
how much and when should they assume that their benefits will be
reduced?

The purpose of this post is to discuss how to use the
Actuarial Financial Planner models to plan for a future decrease in your
current Social Security benefit assuming that the benefit reduction
will be take place in 2034, 9 years from 2025. For this purpose, we will
look at an example.

Example

Bill and Betsy
are both age 65 and in 2025 are collecting total Social Security
benefits totaling $45,000 per annum ($25,000 for Bill and $20,000 for
Betsy). Based on the current default assumptions, the present value of
their Social Security benefits (not counting projected survivor
benefits) as of January 1, 2025 was $1,075,437 ($561,069 for Bill and
$514,368) for Betsy. 

Bill and Betsy have other assets with a
present value of $2,000,000 and spending liabilities totaling $2,400,000
in present value, so their Funded Status as of January 1, 2025 was 128%
[($1,075,437 + $2,000,000 = $3,075,437)/$2,400,000 = 128%].

Bill
and Betsy want to be reasonably conservative, so they plan on
experiencing a 20% reduction in their Social Security benefits in 2034;
remaining at that 20% reduction level thereafter.

Instead of
entering $25,000 and $20,000 respectively for their Social Security
benefits, Betsy enters $20,000 for Bill and $16,000 for herself (80% of
their current benefit). The total present value of these streams of
payments is $860,350 (80% of the non-reduced stream). To this amount,
they will add the present value of 20% of their current benefits payable
for the 9 years from 2025 to 2033) representing the non-reduced
payments they expect to receive during the next 9 years. The present
value for Bill of this 9-year payment stream is $41,720 determined by
entering:

• $5,000 in an “other income” row in column E (Annual Payment),
• 0 in Column G (deferral period),
• 9 in Column H (payment period),
• 3% in Column I (annual rate of increase), and
• 0% in Column J (% upside)

And the present value calculation is shown in the PV Calcs tab

Similarly, Betty determines the present value of her “extra” Social Security payments for the next 9 years to be $33,376.

Thus,
the revised present value of Bill and Betty’s Social Security benefits
under this 20% reduction in 9 years scenario would be $935,445 ($860,350
+ $41,720 + $33,376), or $139,992 less than the present value of their
unreduced benefits as of January 1, 2025. This represents a decrease in
the current present value of their Social Security benefits of about
13%. Note that if they waited 9 years to reflect the decrease and their
benefits were, in fact, decreased by 20%, the percentage decrease at
that time would be 20%.

If we subtract $139,992 from the total
present value of their actuarial balance sheet assets of $3,075,437 and
divide the result ($2,935,445) by the present value of their spending
liabilities of $2,400,000, we get a revised Funded Status of 122%, or
about six percentage points lower than their Funded Status assuming no
future reductions.

If Bill and Betty incorporate these adjustments
and future cuts are less than they assumed, they will incur actuarial
gains in the future that will increase their Funded Status when enacted.
If they make these adjustments or make no adjustments and cuts are
larger than assumed, they will incur actuarial losses in the future that
will decrease their Funded Status when they occur.

Summary and take-aways

A
20% decrease in Social Security benefits nine years from now is not a
small amount. If Congress acts before trust fund exhaustion, it is
likely that the actual cuts, if any, will not be this damaging. On the
other hand, this scenario does not represent the worse-case scenario.
Instead of assuming a 20% cut in 9 years, Bill and Betty could always
see how a 10% reduction enacted five or six years from now might affect
their Funded Status.

For our example couple, the present value of
the assumed decrease in their benefits (20% in 2034) amounted to
$139,992), or about 13% of the current present value of their Social
Security benefits. 

Because they have other assets, this assumed
decrease is expected to reduce the present value of their total assets
and their current Funded Status by about 6%. 

It is arguably more
prudent and conservative to assume some level of benefit cuts will occur
than to assume none. We will leave it up to our readers to select the
level of pain they believe is most likely. We also encourage our readers
to put pressure on their representatives to resolve this issue quickly
so that retirees in the U.S. can reasonably plan for the future.