Since it was created in 1935, Social Security has grown from covering about
half of the work force to covering nearly all workers. The largest
remaining exempted group is a subset of state and local government workers
(SLGWs). As of 2008, Social Security did not cover about 27 percent of the
23.8 million SLGWs (Congressional Research Service 2011). Non-coverage of
SLGWs is concentrated in certain states scattered around the country and
includes workers in a diverse set of jobs, ranging from administrators to
custodial staff. Some police and fire department employees are not
covered. About 40 percent of public school teachers are not covered by
Social Security (Kan and Alderman 2014).
Under current law, state and local governments that do not offer their own
retirement plan must enroll their employees in Social Security. But if it
does offer a retirement plan, the state or local government can choose whether
to enroll its workers in Social Security.
This paper reviews and extends discussion on whether state and local
government workers should face mandatory coverage in Social Security.[1] Relative to earlier work, we focus on links
between this issue and recent developments in state and local pensions.
Although some of the issues apply equally to both existing and newly hired
SLGWs, it is most natural to focus on whether newly hired employees should be
brought into Social Security.[2]
The first thing to note about this topic is that it is purely a transitional
issue. If all SLGWs were already currently enrolled in Social Security,
there would not be a serious discussion about whether they should be
removed. For example, there is no discussion of whether the existing three
quarters of all SLGWs that are enrolled in Social Security should be removed
from coverage.
Bringing state and local government workers into the system would allow
Social Security to reach the goal of providing retirement security for all
workers. The effects on Social Security finances are mixed. Bringing
SLGWs into the system would also help shore up Social Security finances over the
next few decades and, under common scoring methods, push the date of trust fund
insolvency back by one year, but after that, the cost of increased benefit
payments would offset those improvements.
Mandatory coverage would also be fairer. Other workers pay, via payroll
taxes, the glegacyh costs associated with the creation of Social Security as a
pay-as-you-go system. Early generations of Social Security
beneficiaries received far more in payouts than they contributed to the system
and those net costs are now being paid by current and future generations.
There appears to be no convincing reason why certain state and local workers
should be exempt from this societal obligation. As a result of this fact
and the short-term benefit to the programfs finances, most major proposals and
commissions to reform Social Security and all commissions to shore up the
long-term federal budget have included the idea of mandatory coverage of newly
hired SLGWs.
While these issues are long-standing, recent developments concerning state
and local pensions have raised the issue of mandatory coverage in a new light.
Linking the funding status of state and local pension plans and the potential
risk faced by those employees with the mandatory coverage question is a
principal goal of this paper. One factor is that many state and local
government pension plans are facing significant underfunding of promised pension
benefits. In a few municipal bankruptcy cases, the reduction of promised
benefits for both current employees and those who have already retired has been
discussed. The potential vulnerability of these benefits emphasizes the
importance of Social Security coverage, and naturally invites a rethinking of
whether newly hired SLGWs should be required to join the program. On the
other hand, the same pension funding problems imply that any policy that adds
newly-hired workers to Social Security, and thus requires the state to pay its
share of those contributions, would create added overall costs for state and
local governments at a time when pension promises are already hard to
meet. The change might also divert a portion of existing employee or
employer contributions to Social Security and away from the state pension
program.
We provide two key results linking state government pension funding status
and SLGW coverage. First, we show that states with governmental pension plans
that have greater levels of underfunding tend also to have a smaller proportion
of SLGW workers that are covered by Social Security. This tends to raise
the retirement security risks faced by those workers and provides further fuel
for mandatory coverage. While one can debate whether future public pension
commitments or future Social Security promises are more risky, a solution
resulting in less of both is the worst possible outcome for the workers in
question. Second, we show that state pension benefit levels for career
workers are somewhat compensatory, in that states with lower rates of Social
Security coverage for SLGWs tend to have somewhat higher pension benefit levels.
The extent to which promised but underfunded benefits actually compensate
for the higher risk to individual workers of non-Social Security coverage is an
open question, though.
Mandatory coverage of newly hired SLGWs could improve the security of their
retirement benefits (by diversifying the sources of their retirement income),
raise average benefit levels in many cases (even assuming significant changes in
state and local government pensions in response to mandatory coverage), and
would improve the quality of benefits received, including provisions for full
inflation indexation, and dependent, survivor and disability benefits in Social
Security that are superior to those in most state pension plans. The
ability to accrue and receive Social Security benefits would be particularly
valuable for the many SLGWs who leave public service either without ever having
been vested in a government pension or having been vested but not reaching the
steep part of the benefit accrual path.
Just as there is strong support for mandatory coverage in the Social Security
community and literature, there is strong opposition to such a change in
elements of the state and local government pension world. The two groups
that are most consistently and strongly opposed to mandatory coverage of newly
hired SLGWs are the two parties most directly affected – state and local
governments that do not already provide such coverage and their uncovered
employees. Opponents cite the higher cost to both employees and the state
and local government for providing that coverage and the potential for losing
currently promised pension benefits. They note that public pensions – unlike
Social Security – can invest in risky assets and thus can provide better
benefits at lower cost. This, of course, is a best-case alternative as
losses among those risky assets could also increase pressure on pension
finances.
There is nothing inconsistent about the two sides of these arguments; one set
tends to focus on benefits, the other on costs. They can be, and probably
are, all true simultaneously. There is also a constitutional issue that
used to hang over the whole debate – whether the federal government has the
right to tax the states and local government units in their roles as employers –
but that seems resolved at this point.
Section II of this paper discusses the history and current status of Social
Security coverage for SLGWs. Section III discusses mandatory
coverage in the context of Social Security funding and the federal budget.
Section IV discusses the issues in the context of state and local budgets,
existing pension plans, and the risks and benefits to employees of those
governments. Section V concludes.
[1] Earlier surveys of these issues provide excellent
background. See Government Accountability Office (1998), Munnell (2005),
and Congressional Research Service (2011).
[2] A variety of related issues are beyond the scope of the
paper, including in particular how best to close gaps between promised benefits
and accruing assets in state and local pension plans and the level of those
benefits.