Social Security retirement benefits are available to anyone who has worked for a sufficient number of years, whether they are high or low earners. And these benefits are earned, meaning you only get them if you pay into the system that funds them.
But despite the fact that Social Security is a universal benefit, it helps typical Americans more than the rich when it comes to preparing for retirement.
Here are two main reasons why this program is so much more beneficial to the average person than to someone who has a very high income over the course of their career.
1. The Social Security benefit formula is progressive
The first big reason why typical Americans get more help from Social Security is because the program is designed that way. The benefits are based on a percentage of the average wage earned in the 35 highest-earning years of your career. And lower income earners get benefits equal to a higher percentage of those wages, since the Social Security benefits formula is progressive.
The benefits formula entitles retirees to a standard benefit equal to:
- 90% of the average wage up to a certain income limit
- 32% of the average wage between the first threshold and a second threshold
- 15% of the average wage above the second threshold
The income thresholds are called “inflection points”. They change every year. While this may seem confusing, the bottom line is that if your average professional income is below that first threshold, Social Security benefits equal 90% of it. But once your average income rises above it, Social Security begins to replace a smaller and smaller portion of the income you’ve earned.
Higher earners will see a significant portion of their income above these first and second inflection points, but lower earners will not.
2. High earners do not receive benefits based on: all of their earnings
The second reason Social Security doesn’t help rich people as much is because not every dollar of their earnings necessarily counts when calculating their benefits.
Every year, the Social Insurance Service sets a taxable maximum wage. Every dollar under it is counted when the SSA records your pay for the year. But if you deserve more than the taxable maximum, anything above that will not count in your average. For example, in 2022, the maximum taxable wage is $147,000. If you make $157,000, you will only get $147,000 in revenue. Your average wage for the year recorded by the SSA is not a true reflection of the full amount you earn.
Now you do not pay any social security tax on that extra income above the maximum taxable wage. But, since it cannot increase the average wage used to determine your monthly benefit, you will receive a benefit that replaces much less of your total income than someone who included all of their earnings.
This is why, while Social Security benefits replace about 40% of pre-retirement income on average, lower earners generally see a slightly higher replacement rate, while higher earners see a lower one. Social Security won’t help these wealthy Americans that much because it will give them less retirement income compared to what they earned at work, so they’ll have to save more.
No one, regardless of income level, should rely on Social Security to fully fund their retirement. But if you make a hefty salary, be aware that your benefits won’t do as much for you as someone who earns less. You need to ramp up your efforts to breed a nest egg that will provide enough additional resources to live on in your later years.