Social Security turns 87 — why it still matters so much

Without Social Security, in fact, millions of retirees would be forced to live on next to nothing.

Just consider how tiny the 401(k) accounts are of many retirees and near-retirees. It’s easy to miss how small their accounts are because we tend to focus on the average. Yet that average is skewed upward by the small proportion of 401(k)s that are very large.

To appreciate the extent of this skewness, consider the difference between the average 401(k) account size at Vanguard and the median. The median, of course, represents the 50^th percentile of the distribution, with 50% of accounts smaller and 50% of accounts larger. At the end of last year, the average 401(k) account at Vanguard stood at $141,542, whereas the median stood at $35,345.

Imagine how hard it would be to live off a 401(k) worth $35,345. Assuming the classic 4% spending rule, which many now think is too generous to be sustainable, such a 401(k) would provide monthly income of $117.82. And, awful a prospect as that is, such a monthly income would be higher than for 50% of 401(k) account holders.

Am I exaggerating the extent of the problem? In one sense, yes, since many have 401(k)s at more than one institution, and still others also have an IRA. So the account sizes at Vanguard don’t necessarily reflect the entirety of workers’ retirement assets.

In another way, though, my calculations understate the extent of the problem: Many near-retirees don’t even have a 401(k) or IRA in the first place, and are therefore not represented by Vanguard’s calculations.

Needless to say, the Social Security system also has challenges. One of the biggest is its financing, since it’s projected to be unable to pay 100% of scheduled benefits beginning in 2034. Solving that challenge in an equitable way won’t be easy, especially given the extent of polarization in Congress.

Still, there is little doubt that financing retirement would be impossible for millions of Americans if they had to live on their 401(k)s or IRAs. According to the Social Security Administration:

• Nearly nine out of 10 people age 65 and older were receiving a Social Security benefit as of Dec. 31, 2020.

• Social Security benefits represent about 30% of the income of the elderly.

• Among elderly Social Security beneficiaries, 37% of men and 42% of women receive 50% or more of their income from Social Security.

• Among elderly Social Security beneficiaries, 12% of men and 15% of women rely on Social Security for 90% or more of their income.

The Social Security minimum

A low-wage earner who worked for 30 years and paid Social Security taxes throughout his working life would receive at least $950.80 per month from Social Security. That’s more than eight times the amount that a median-sized 401(k) would produce with a 4% spending rule.

While this minimum Social Security benefit is still shy of the Federal poverty level for a single person, when supplemented by other sources of income it’s enough to propel many retirees above that level. According to an April 2021 analysis by the Congressional Research Service, the proportion of those over age 65 who live below the poverty line would grow from 8.9% to 35.8% without Social Security benefits and assuming no other changes.

It’s this cohort of retirees—those who are below the poverty line or barely above it—where this country’s true retirement crisis exists. We unwittingly ignore this cohort, however, when we focus on the proper asset allocation of a retirement portfolio or how to minimize the taxation of portfolio withdrawals—to name just a few of the topics that dominate discussions of retirement finance.

It’s important to put these discussions in perspective. And one way to do that is to wish Social Security a happy birthday.

Mark Hulbert is a regular contributor to MarketWatch. His Hulbert Ratings tracks investment newsletters that pay a flat fee to be audited. He can be reached at mark@hulbertratings.com.