A new report from the Center for Retirement Research at Boston College asks whether assessing payroll taxes on the value of workplace health care benefits would meaningfully help close Social Security’s significant funding shortfall.
The answer, according to CRR researchers Karen Smith and Richard Johnson, is yes. Their results suggest that the policy would raise payroll taxes by about $400 per year on average and reduce the program’s 75-year shortfall by about 25%.
There’s a catch, however. This funding option would be “somewhat regressive,” the authors say, because it would collect no additional taxes from earners above the wage cap. Most of Social Security’s current revenues come from the payroll tax levied on wages and salaries up to a cap, which is set at $176,100 in 2025.
Annual earnings above that cap are exempt from the Social Security payroll tax. Likewise, Smith and Johnson observe, the value of most “fringe benefits,” which are generally not subject to federal income taxes, are also excluded from the payroll tax base.
Changing the benefit tax policy would be in line with public opinion, according to the researchers, as broad support exists for increased revenue to be included in any solution. While this adjustment would make Social Security more regressive, Smith and Johnson find, it could be part of a larger reform package that balances the needs of all stakeholders.
What’s abundantly clear, according to the authors, is that policy action is needed before assets in the key Social Security trust funds are depleted. Without doing so, the program’s trustees forecast, Social Security will be able to pay only about 83% of scheduled benefits starting in 2035.
“Many experts recommend that increased revenue should be at least part of the solution to Social Security’s financing imbalance, and public opinion polls show that most Americans favor increasing program revenues over cutting benefits,” the researchers note.
A Regressive Option
As the CRR analysis recounts, most employers supplement employees' cash compensation with “fringe benefits,” such as health insurance, a retirement plan, disability coverage or life insurance.
Contributions that employers make to fund these benefits are generally not included as compensation under the federal income tax or the payroll tax. Moreover, Johnson and Smith note, employees often contribute toward the cost of some of these benefits, usually with pre-tax dollars, and those salary reductions are also generally excluded from the payroll tax base.
The one exception is employee deferrals for qualified 401(k)-type retirement plans, which are included in the payroll tax base even though pre-tax deferrals are not subject to income taxation until they are withdrawn from the plan.
According to the report, expanding the Social Security contribution base to include additional fringe benefits — especially employer-sponsored health insurance — could significantly boost revenues. Such a change would have increased average annual 2021 Social Security payroll taxes by $420, for example, from $5,920 to $6,340, and the estimated impact would be even larger if considering only those with employer-sponsored health care.
In contrast, eliminating the earnings cap by itself would have increased average annual 2021 contributions by $1,330 — or 22.5%. However, unlike raising the program’s earnings cap, adding benefit contributions to the base would increase tax burdens only on workers below the cap, including those with relatively low earnings.
Key Considerations and Conclusions
While the effects on the workforce would be regressive, the authors find, additional revenue generated from broadening the payroll tax base would noticeably improve Social Security’s finances.
“In 2024, Social Security’s actuaries estimated that the program’s 75-year actuarial deficit equaled 3.5% of taxable payroll,” the report states. “Adding [workplace health benefits] to the payroll tax base — assuming the impact is the same as our estimate for 2021 — would cut the deficit by about 25%.”
Because the analysis excludes self-employed workers, these estimates actually understate the potential revenue impact of expanding the contribution base.
Ultimately, the authors find, adding health care benefits to the payroll tax base would generate slightly less revenue than either increasing the annual taxable maximum by about $100,000 or levying the payroll tax on earnings above $400,000.
“Clearly, these policy options would affect lower earners and higher earners very differently,” the report concludes. “Raising the taxable maximum would require highly paid earners to pay slightly higher taxes. Adding [health care] benefits to the payroll tax base would require lower-paid earners to contribute more while collecting no additional revenue from the highest earners."
These “distributional consequences,” the authors suggest, will at the least be helpful to consider as the debate over Social Security’s solvency intensifies and policymakers discuss what to include in a reform package.
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