The Benefits Of A Fully Funded Social Security System - Term Paper Example

The Benefits Of A Fully Funded Social Security System Table of Contents Introduction 1 Social Security System 2 Benefits of Social Security System 2 Future of Social Security System 3 Benefits of Having 401 k Retirement Plan 6 Essential Aspects of a 401 k Plans 6 Tax Advantage of 401 k Retirement Plan 7 Employer Match 7 Customization of Investment and Flexibility 8 The 401 k Retirement Plan vs. the ‘Safety Net’ in Social Security 9 Conclusion 10 10 References 11 Introduction The paper is aimed at defining the structure of social security system with respect to its prevalence to present and also in the future. It is not certain that whether the system will prevail after 20 years from now. The uncertainties related towards its existence and popularity will be discussed. On contrary to its uncertain position, benefits of holding various corporate schemes of retirement benefits will be explained by taking example of 401 k retirement plans. The benefits of such corporate schemes will be supported by evidences from various journals and articles. Social Security System The official name of a social security system is OASDI (Old Age and Survivors Disability Insurance). According to Nathan Taulbee, the social security system is that “system whose purpose is to ensure that the nation’s elderly could earn a decent income in the later years of their life” (Taulbee, 2007). The author described the benefits of a fully funded social security system. In the following section of the paper, the advantages will be mentioned in brief (Taulbee, 2007). Benefits of Social Security System The first advantage of Social Security System is that when funds are obtained fully, the worries about the future anticipated shortages will be lower for the system. Another advantage of the system is that the structure of the current system which is popular among the Americans is maintained. This feature adds to its popularity and people feel more secured to invest in the funds. A fully funded system provides government the opportunity of investment in equities. Investment inequities reflect incredible rise in the rate of return. The most important advantage of a fully funded social security system is from its economic point of view. Investment in such funds increases the national saving which is calculated by deducting private saving from public saving (Taulbee, 2007). Future of Social Security System At present, social security is facing shortfall which has raised questions about its solvency. Studies suggest that certain modifications and adjustments can re-establish its solvency. The system is even challenged on the ground that it has to make the adjustments in such a way that retirees who earn less are not adversely affected by such changes. The payments for social security at present are made from the funds by payroll taxes of the current workers. But the problem is that the Americans are now living longer and their number of children are also very less. Thus workers supporting each retiree are decreasing. Comparing the figures of number of workers for each beneficiary in the year 1970 with projections for the year 2035, it can be seen that the number will get reduced from 3.2 workers to 2.1 per retiree. At the same time with decrease in the supportive workers, the numbers of retirees have increased with their lifespan; thus extending the period of collecting benefits. In the early years of its foundation, social security system has performed well but with the economic meltdown and certain natural features of the people, its performance has been anticipated to decline. In the Figure 1, performance of the social security in the past along with its projections after 25 years from now has been presented. The figure shows that the system has survived even with negative cash flows and it is also expected to recover with the economic reforms. But after 2015, it is projected that the payment will be more than collection through payroll taxes of workers. As can be seen from the figures of the year 2035, the cash flow will reach to a considerable negative point. The projections have been made based on the assumptions of 2010 trustees in America. (Urban Institute, 2010). Due to the uncertainties of social security system after 20 years, it is beneficial to have a separate retirement (401 k) plan or investments that would secure the lifestyle after retirement. The following section of the paper will focus on the beneficiary effects of retirement plans after 20 years if the social system fails to exist. Benefits of Having 401 k Retirement Plan According to Phillip Davis, “as more and more defined benefit pension programs are being terminated or frozen, 401k plans have become the only viable retirement program for tens on millions of American workers” (Davis, 2006). Essential Aspects of a 401 k Plans A 401 k plan is a retirement plan which is provided by companies to its employees. The plan is actually administered by the company but authorization for contributing to the plan is enjoyed by both the employer and the employees. There are various benefits of investing in a 401 k plan which seems advantageous for an employee in case the social security does not exist in the future. According to Joshua Kennon, “a 401 k plan is a special type of account funded through pre-tax payroll deductions. The funds in the account can be invested in a number of different stocks, bonds, mutual funds or other assets, and are not taxed on any capital gains, dividends or interest until they are withdrawn” (Kennon, 2010). From the above explanation, the following benefits can be identified: Tax Advantage of 401 k Retirement Plan The primary benefit of 401k plan is the tax benefit that it receives. Until the disbursement of dividend or capital gains or interest, they are not taxed. Employees find it suitable to invest in such plans instead of depending on the social security system which has uncertain futures. Employer Match In order to recruit and retain employees, many employers offer matches of certain percentages of the contribution of employees. Many companies offer plans where employees staying for long in the organization receive higher matches in the form of return. Customization of Investment and Flexibility The employees are offered a range of options to choose from their investment in the 401 k plans. For example, employees who are risk averse normally opt for higher asset allocation in less risky securities such as short term bonds; on the other hand, a risk taking investor who plans to achieve long term benefits chooses to invest in equities (Anything & Everything, 2010). The 401 k Retirement Plan vs. the ‘Safety Net’ in Social Security According to William F. Sharpe, “A 401 k plan is termed a defined contribution plan since the amount contributed each year by the employer and the employee is specified but the amount available during retirement depends on investment performance” (Sharpe, 2006). According to him, “social security or the traditional pension plan is termed a defined benefit plan since the amount to be received by the employee in retirement is specified, with the employer left to make investments, take the associated risk and get the associated return” (Sharpe, 2006). From the above definition provided, it can be mentioned that social security would be better option to go for on the basis of its level of certainty but considering the fact that performance of the system had not been well since the last few years, employees should opt for 401 k plan. Moreover the generation who goes for retirement plan in their 20s is risk takers and thus favors 401 k plans. Conclusion From the discussion in the paper, it has been found that considering the present uncertainties of social security about its existence in future, it is profitable to choose other corporate retirement plans like the 401 k plan. The discussion in the paper was kept confined to 401 k plan only because of its prevailing popularity in the USA. There is future scope of discussion also regarding the issue that whether it is viable enough to prefer corporate retirement plans to the social security traditional pension programs of the Federal Government. References Anything & Everything, (2010). A 401k Plan – Essential Aspects to Consider. Administrator. Retrieved Online on December 17, 2010 from http://www.anythingandeverything.org/a-401k-plan-essential-aspects-to-consider/ Davis, P., (2006). 401k Plans Disregard a Tough ‘Safety Net’ Problem. Mktlinks. Retrieved Online on December 17, 2010 from http://www.corpcompinc.com/MktLinks/401kPlans-NoSafetyNet.pdf Kennon, J., (2010). 401k Retirement Plan. Investing for Beginners. Retrieved Online on December 17, 2010 from http://beginnersinvest.about.com/od/401k/a/aa122104a.htm Sharpe, W. F., (2006). Financing Retirement: Saving, Investing, Spending and Insuring. Stanford University. Retrieved Online on December 17, 2010 from http://www.stanford.edu/~wfsharpe/retecon/finret.pdf Taulbee, N., (2007). The Benefits of a Fully Funded Social Security System. Illinois Wesleyan University. Retrieved Online on December 17, 2010 from http://www.iwu.edu/economics/PPE07/nathan.pdf Urban Institute, (2010). The Future of Social Security: Solvency, Work, Adequacy, and Equity. Program on Retirement Policy. Retrieved Online on December 17, 2010 from http://www.urban.org/uploadedpdf/412253-Social-Security-Solvency.pdf Read More