taxes
March 1, 2017 | by Chris Stein, CFP®, Finance Instructor at Colorado State University
Income Subject to Social Security Taxes

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I ran across an interesting statistic recently that describes one reason why funding for the Social Security (SS) system is deteriorating over time.  Back in 1983, 90% of all income earned in the USA was subject to SS taxes.  That means that of all the income earned in the USA, 90% of those dollars contributed the 12.4% tax into the SS system (6.2% each from both the employer and employee).

Cap on Maximum Amount of Earnings

Since that time, the total income subject to SS taxes has dropped to about 82%.  This has happened due to the concentration of greater amounts of income being earned by the wealthiest of Americans.  As you probably know from reading this blog, there is a cap on the maximum amount of your earnings each year that are subject to SS taxes.  In 2017 that cap is $127,200.  Any earnings above this cap are subject to income taxes, but NOT SS taxes.  Since 1983, the amount of income earned over this cap by individual taxpayers has increased.  This essentially “shields” this income from SS taxes that would have been paid had that income been paid to lower wage workers.

Income Inequality

I am certainly not writing this due to some animosity I have against those earning over the cap.  I am writing this to share my surprise about a system that I thought was adjusting for this sort of thing.  My belief was that as the cap increases (almost every year), the increase captures enough extra earned income to keep the amount headed to SS about the same (inflation adjusted).

If all that was driving income growth was inflation, the current adjustment method would work fairly, but since we have another force at work (increasing income inequality) the adjustment is not keeping up with income growth of the wealthiest in our society.  If you agree that taxes paid into SS are fair by exposing 90% of income in the USA to SS taxes as was the case in 1982-83, we should agree that using an adjustment method for the cap that maintains that ratio needs to be used.  The current system does not do this.

Proposed Changes

This point may be moot in the not too distant future when changes are made to the SS system.  One proposed change is to either increase the cap, or even do away with it completely, thus exposing 100% of earned income in the USA to SS taxes.  I feel that one or the other of these changes are likely since this step seems to be being supported by a significant number of policy makers from both sides of the aisle.  If the change turns out to be just an increase in the cap, hopefully the rule makers will learn from the past and create a way to maintain a consistent ratio of taxed vs. untaxed income, which is probably fairer than what happens now.

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