Saving Social Security By Removing the Cap and Implementing a Flat Tax

The Bush administration’s proposal to “rescue” Social Security is currently on the back burner, but you can bet that we haven’t heard the last of this cornerstone of the Republican agenda. Giving few details, they have proposed to divert at least 2% – and possibly as much as 4% – of the current 12.4% Social Security tax to some vaguely defined mandated investment account. Leaving aside for the moment the very pertinent question of whether Social Security really needs rescuing, let’s just look at the proposal as sketched out so far. Anyone familiar with sixth grade math and compound interest can see that this proposal will devastate the Social Security trust fund over a relatively short period. The administration is really proposing to deprive the Social Security trust fund of between 15% and 30% its annual revenues from the FICA tax. Of course, the fund will lose not just the diverted revenue, it will also lose all future treasury bond interest on the missing funds.

Why put the Social Security accounts of millions of Americans at risk, when we can adequately fund Social Security and reduce the tax rate at the same time? The Social Security tax base is currently capped near $90,000.00 of earned income. At the official IRS web site (www.irs.gov/taxstats) you will see that about 90% of taxpayers pay the full rate. The 10% of taxpayers with incomes over $100,000.00 pay at an ever-decreasing rate once over the cap. Here’s a modest proposal: let’s remove the cap and lower the rate for everybody. Aggregate adjusted gross income to individuals in 2002 from all sources amounted to about $5.6 trillion. Lowering the rate to 10.4% on all sources while removing the cap would generate about $580 billion in annual Social Security contributions. This is almost $50 billion over the $533 billion annual net contributions most recently reported, easily enough to extend the solvency of the fund. Over 90% of U.S. taxpayers would pay less, a few wealthier taxpayers would pay a little more, and all would benefit from a strengthened Social Security.

This is a non-partisan approach. South Carolina Republican Senator Lindsay Graham has gone some way towards this solution by suggesting a raise in the cap to $200,000.00. Some Democrats in Congress have also discussed raising the cap. We can do better by removing the cap entirely, applying the tax to income from all sources, and lowering the rate. By doing so we will finally institute a truly flat tax, favoring neither end of the income scale. We will also be practicing sound Reaganomics by applying the Laffer Curve to the real world, lowering the rate and raising more revenue.

A fair, flat and lower tax will also put more money directly into the hands of the majority of Americans. If funds are to be diverted, why limit the individual’s choices to some government mandated investment scheme? For many people, the best investment of those funds will be a current expenditure for capital equipment, education or medical care.

The stock market is for fun and profit, not security. The wealthiest among us can be instantly reduced to bankruptcy by one serious illness, accident, or financial reverse. That’s why we have a Social Security system. It is the best guarantee we have against ending up in the gutter in our old age, or even in relative youth if we are suddenly disabled. A strong Social Security system underpins the economy by reducing the need to hoard earnings in fear of a penniless old age, freeing up more money for investment or consumption. A fair Social Security tax that puts more discretionary funds in the hands of the vast majority of Americans is a winning strategy for everybody.

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