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Payroll Tax Cap May Change

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The Senate Special Committee on Aging heard arguments this week about the possibility of shoring up the Social Security trust fund by taxing a higher percentage of employee earnings.

John Irons, research and policy director at the Economic Policy Institute, Washington, recommended that the cap on the amount of employee earnings subject to the payroll tax be eliminated.

That change “would eliminate most, and potentially all, of the shortfall, while maintaining a link between higher employee contributions and higher benefits,” Irons said. “It would not lead to extremely large benefits for millionaires, which could be a concern if the cap were eliminated altogether and all earnings were credited for benefit calculations. Finally, self-employed taxpayers, who are responsible for both employer and employee contributions, would not face as large an increase in payroll taxes.”

Sen. Herbert Kohl, D-Wis., chairman of the Aging Committee, and Sen. Mel Martinez, R-Fla., the highest-ranking Republican on the committee, told Irons that they were concerned that his proposal would cause the loss of jobs and other financial burdens.

Irons acknowledged that his proposal could cause some loss of jobs.

But, in comparison with other options, increasing the amount of income subject to the payroll tax would have “a smaller impact on the macro economy across the board” and it offers “the least cost of the options before you,” Irons said.

Andrew Biggs, a resident scholar at the American Enterprise Institute, Washington, said the effects of the proposed changes on the lowest-income affected taxpayers would be substantial.

“I am wary of having a nearly 50% tax rate on someone at that level,” Biggs said. “He didn’t cause the problem, so I’m not sure he should have to pay for it.”

Instead, the government should make delaying retirement more enticing, Biggs said.

“Despite longer life expectancies and less physically taxing work conditions, workers are retiring earlier,” Biggs said. “Today the average worker retires at age 62 or 63, compared to 68 in the 1950s. To the degree that Social Security’s funding shortfalls are exacerbated by rising life spans, it makes sense for individuals to respond by working longer. But Social Security’s benefit formula does not encourage longer work lives.”

Copies of hearing documents are available here.