Participants Would Forfeit Part of Accounts' Profits

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http://www.washingtonpost.com/wp-dyn/articles/A59136-2005Feb2.html

Participants Would Forfeit Part of Accounts' Profits

By Jonathan Weisman
Washington Post Staff Writer
Thursday, February 3, 2005; Page A13

Under the White House Social Security plan, workers who opt to divert some of their payroll taxes into individual accounts would ultimately get to keep only the investment returns that exceed the rate of return that the money would have accrued in the traditional system.

The mechanism, detailed by a senior administration official before President Bush's State of the Union address, would hold down the cost of Bush's plan to introduce personal accounts to the Social Security system. But it could come as a surprise to lawmakers and voters who have thought of these accounts as akin to an individual retirement account or a 401(k) that they could use fully upon retirement.

Highlights of the Proposal

• ELIGIBILITY: People born before 1950 would not be affected.

• INDIVIDUAL ACCOUNTS: People born in 1950 or later could divert up to 4 percent of income subject to Social Security taxes into individual accounts, up to $1,000 a year -- a cap that would be phased out.

• WHEN: The accounts would be phased in between 2009 and 2011.

• OPTIONS: Workers would be able to choose among several stock, bond and mixed-investment funds.

• LIMITATIONS: Participants would have no access to the accounts before retirement and could not borrow against the balance.

• AT RETIREMENT: Participants would be required to buy annuities to ensure steady payments out of the accounts over a lifetime.

• OVERSIGHT: The federal government would administer accounts.
<snip>The plan is more complicated. Under the proposal, workers could invest as much as 4 percent of their wages subject to Social Security taxation in a limited assortment of stock, bond and mixed-investment funds. But the government would keep and administer that money. Upon retirement, workers would then be given any money that exceeded inflation-adjusted gains over 3 percent.

That money would augment a guaranteed Social Security benefit that would be reduced by a still-undetermined amount from the currently promised benefit.

In effect, the accounts would work more like a loan from the government, to be paid back upon retirement at an inflation-adjusted 3 percent interest rate -- the interest the money would have earned if it had been invested in Treasury bonds, said Peter R. Orszag, a Social Security analyst at the Brookings Institution and a former Clinton White House economist.

More from Jonathan Weisman's absolute must-read on the specifics of the White House Social Security plan, including exactly how those personal accounts and the money would work — that workers would receive dividends exceeding the inflation-adjusted 3 percent interest rate, and not the whole balance. The nest-egg-vs.-loan difference is absolutely crucial. LINK

"If a worker sets aside $1,000 a year for 40 years, and earns 4 percent annually on investments, the account would grow to $99,800 in today's dollars, but the government would keep $78,700 — or about 80 percent of the account. The remainder, $21,100, would be the worker's."

"With a 4.6 percent average gain over inflation, the government keeps more than 70 percent. With the CBO's 3.3 percent rate, the worker is left with nothing but the guaranteed benefit."

The New York Times' David Rosenbaum lays out the basics: "The theory behind the proposal is that the government can make the Social Security system financially solid by reducing guaranteed retirement benefits, but ideally workers' retirement income would not be lower because their investment accounts would make up for the lower guaranteed benefits." LINK

"Workers could participate or not, as they chose. Those who did might fare better financially than those who relied on guaranteed benefits. Though Mr. Bush did not acknowledge any risk, they could also do worse. Bush administration officials say the accounts would be heavily regulated, but even so, the unpredictability of the financial markets would be injected into what has always been a straightforward social insurance program."