Where We Stand On The Social Security "Notch"

Where We Stand On The Social Security “Notch”

Source: James W. Kelley & Joseph R. Humphreys, "Congressional Intent Concerning The Notch Issue: Legislative Background of the 1977 Social Security Amendments," 1994.Source: Congressional Research Service May 24, 1999

The term "Notch" refers to an unprecedented drop and disparity in Social Security benefits for persons born from 1917 through 1926 compared with those paid to other retirees with similar work and earnings records. Many of those born during the Notch period feel they have not been treated fairly and are not receiving the benefits that Congress intended. On the other hand, the Social Security Administration (SSA) and some government officials argue that those born during the Notch period are receiving the benefits that Congress intended. This brief lays out the background on the issue and the position of TREA Senior Citizens League.

In 1977, Social Security was close to bankruptcy. Legislation enacted in 1977 changed the way benefits were calculated, beginning with retirees who were born in 1917 and who first became eligible for benefits in 1979. The changes were major, and the transition between the old and new method of calculating benefits not only took place over a very short period of time, it did not work as anticipated.

The group of retirees born from 1917 through 1926 (1), who became eligible for retirement benefits immediately after the 1977 law changes, was affected. Those born during the Notch years generally received substantially lower benefits than those paid to retirees born before and after them. When represented on a chart, the disparity in benefits forms a deep "V" notch, hence the name.

1977 Changes Fixed An Earlier Flaw In The Benefit Formula

The 1977 legislation was intended to correct an earlier flaw in the Social Security benefit formula. That flaw raised the initial retirement benefits for future retirees too quickly. Government economists predicted at the time that, if not corrected, the initial monthly benefits of future retirees could be greater than their monthly earnings prior to retirement - far above the levels ever anticipated (2). The flawed benefit formula would bankrupt Social Security.

Congress recognized that benefits would be lower under the new benefit formula provided by the 1977 law changes, but they sought to address the problem of abrupt benefit cuts for those nearing retirement (3). Congress provided a "transitional benefit formula" to phase in the changes for those who would become eligible for Social Security within the first five years of the changeoverЧthose born from 1917 through 1921. This group of retirees had their benefit calculated two waysЧunder the new benefit formula and under the transitional benefit formula and they received the higher of the two benefits. According to a comprehensive economic analysis by noted economist John Haldi, Ph.D., the transitional benefit formula, however, had significant flaws and in almost every case failed to provide any benefit protection (4). Thus, benefits were sharply and rapidly reduced.

Economic Conditions Compounded Problem

The new benefit formula under the 1977 law changes used "wage indexing" to calculate the initial retirement benefit. The economic assumptions used by Congress and the Social Security Administration assumed that wages would grow more quickly than price inflation. Generally, this is the way the economy tends to perform under normal circumstances. In reality, however, the reverse happened.

Wages were lower than expected and initial retirement benefits for Notch Babies were calculated on lower average earnings. Thus, benefits were lower than anticipated. In addition, inflation grew at double-digit rates over the same period, yet the new benefit formula failed to fully account for inflation for many Notch Babies, especially those who delayed their retirements (5).

According to the Congressional Research Service (CRS), for a person who retired at age 65 with average wages, a maximum benefit disparity of 10% would have arisen between the highest benefit under the old rules and the lowest benefit under the new rules if the 1977 assumptions had materialized. Under the economic conditions that actually arose, the disparity was 25% (6).

The Effect of Economic Conditions Was Not Foreseen, and Therefore Could Not Have Been Intended by Congress

The sharp drop in benefits was unexpectedly steep and unduly harsh for those born from 1917 through 1926. According to economist Haldi, the decline in average benefit payments "was a highly unusual phenomenon, because benefits normally would be expected to increase slightly from one year to the next for people similarly situated. (7)"

Because the economic fluctuations were highly unusual and unforeseen, logic dictates that Congress could not have intended the benefits that Notch Babies actually received. The disparities in benefits under the actual conditions of double-digit inflation are illustrated in the following chart, which was not developed until 1994. Even if Congress had developed this chart in 1977, however, they would have seen benefit differences of only 10%-14% shown on the left-hand side of the chart. Instead, the effects of inflation are reflected by benefit differences of 13% to 30% shown on the right. In effect, the actual benefit reductions for many retirees were more than double what original projections would have been at the time.

Old vs. New LawЧMonthly Benefit Differentials
for a Worker With Average Earnings, Retiring at Age 65

Under 1977 Projections Under Actual Conditions

Early Efforts to Hold Congress to Its Promise Leads to a Notch Commission

Over the years, there have been many bills, some with large numbers of co-sponsors, to fix the Notch. Most of the proposed legislative "fixes" provided improved monthly benefits. "Notch Reform" bills encountered strenuous opposition. Objections centered on the lifetime cost of providing those benefits. In 1992, one widely-supported piece of legislation was estimated to cost $300 billion (including interest lost to the Social Security Trust Fund) through the year 2020. In addition, it was argued that the cost would cause the Social Security Trust Fund to become insolvent even sooner than projected.

When support for correcting the Notch reached a head, Congress established a 12-member commission to study the Notch and issue a report. No member appointed to the Commission, however, was on record as supporting the correction of the Notch disparity. On the other hand, a number of members, including the chairman, were on record as opposing such action. The Commission issued its report on December 29, 1994, concluding that "benefits paid to those in the Notch years are equitable, and no remedial legislation is in order."

It was during this time that TREA Senior Citizens League (TSCL) was founded, and of its primary goals became the representation of those affected by the Notch in Congress. Recognizing that Congress created the Notch by reducing Social Security benefits in the past, and that baby-boomers nearing retirement would provide continuing pressure to reduce benefits in the near future, TSCL's primary mission is to protect "earned" Social Security and Medicare benefits.

TREA Senior Citizens League Backs New Approach to Correcting the Notch

To counter concerns over the cost of "fixing" the Notch and the financial solvency of the Social Security Trust Fund, TSCL backs an alternative "capped-cost" solution. "The Notch Fairness Act" would provide Notch Babies born from 1917 through 1926, or their survivors who receive benefits based on their accounts, a choice of either improved monthly benefits, or a lump-sum of $5,000 payable over a four-year period. Recent surveys of TSCL members show more than 75% favor the lump-sum legislation.

Because of the advanced ages of Notch Babies, the cost of correcting the Notch is falling every day. TSCL estimates (in 2006) that the cost of Notch Reform would be about $27 billion, or slightly less than $6.75 billion per year over the next four years. The $27 billion could be financed without taking additional money from the Social Security Trust Fund. This could be done through cutting wasteful pork barrel spending and reducing fraud and abuse in government programs. In fiscal year 2006 alone, lawmakers spent about $29 billion in pork-barrel projects (8). That doesn't include what the government lost to improper payments, fraud, and abuse. The Government Accountability Office estimated that for fiscal year 2005 government agencies improperly spent more than $38 billion (9).

The Notch Could Happen Again

Although no other generation has yet been affected by a similar Notch, that could change in the future. Congressional inaction on Social Security's long-term financing problems could give birth to a whole new generation of Notch Babies. During recent hearings on the need for making Social Security more sustainable as Baby Boomers near retirement, David Walker, the Comptroller General of the United States, confirmed this saying "Doing nothing means that we are going to head to a precipitous decline in benefits. Remember the Notch Baby problem?" he asked. "This would be a Notch Baby problem magnified multiple times and it should not be allowed to happen." (10)

Indeed, during the 2005 debate over Social Security reform, one of the leading proposals would make changes to the benefit formula similar to those made in 1977. The proposal would tie the calculation of the initial retirement benefit to changes in price inflation. According to an analysis of a leading proposal by the Congressional Budget Office, when benefits are charted on a graph as shown here, they illustrate a "precipitous decline" in benefits and an all too familiar "V" shaped Notch.

Source: "Analysis of Plan 2 of The President's Commission on Social Security," Congressional Budget Office, July 21, 2004.

Who Will Decide the Future of Your Benefits?

Those born during the Notch period are the same Americans who fought and sacrificed during World War II. When they retired, they paid the price of "saving Social Security" for future generations by receiving lower benefits for the rest of their lives. Now, although they receive lower benefits, they are among the senior age group hit hardest by escalating health care costs. Time is running out for Notch Babies. Congress must act soon.

It's up to us to see that they do. We must hold our elected lawmakers accountable. TSCL, our members and their families, friends, and supporters will not allow the Notch Issue to quietly die away, but continue to press for enactment of Notch Reform legislation.

Notes:

(1) "Congressional Intent Concerning the 'Notch' Issue: Legislative Background of the 1977 Social Security Amendments," a paper prepared for The Commission on the Social Security 'Notch' Issue, James W. Kelley, and Joseph Humphreys, page 49, footnote 3.
(2) "Social Security: The Notch Issue," GAO, March 1988, GAO/HRD-88-62.
(3) "Congressional Intent Concerning the 'Notch' Issue: Legislative Background of the 1977 Social Security Amendments," a paper prepared for The Commission on the Social Security 'Notch' Issue, James W. Kelley, and Joseph Humphreys, ppgs. 71 & 72, footnote 58.
(4) "The Social Security Notch: An Economic Analysis," John Haldi, Ph.D., February 2003.
(5) Ibid.
(6) "Social Security Notch Debate," David Koitz and Geoffrey Kollmann, Congressional Research Service Issue Brief, February 24, 1995, page 4.
(7) "The Social Security Notch: An Economic Analysis," John Haldi, Ph.D., February 2003.
(8) "CAGW's 2006 Pig Book Exposes Record $29 Billion in Pork!" Citizens Against Government Waste, April 5, 2006.
(9) "Challenges Remain in Meeting Requirements of the Improper Payments Information Act," GAO, March 9, 2006, GAO-06-482T.
(10) Transcript of hearing on "The Future of Social Security," House Ways and Means Committee, March 9, 2005.

May 2007

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