Q: I'm 34 years old and, despite my master's degree in public policy, a little confused by the numbers Social Security sends me in their little green and white "Social Security Statement" mailer. They say that if I retire at age 67, my payment would be $1,984 per month -- less if I retire early, more if I defer.

What I can't figure, despite having read the mailer cover to cover, is whether they're talking in terms of today's dollars or whether this is their projection of the actual dollar amount I'll receive in 2039. Obviously two grand a month in today's dollars sounds a lot better than two grand a month in 2039 dollars. -- J.M., Seattle

A: They are talking in constant dollars. Your benefit would be adjusted upward each year to reflect inflation. If inflation averages 3 percent a year, your future benefit would be about $5,262 a month -- even though its purchasing power would be the same as $1,984 today.

Sadly, the increase in nominal dollars will have a terrible side effect -- you will pay much more in income taxes than someone retiring today on the same purchasing power.

How can this be?

You can thank politicians of both parties for this generational atrocity. The formula for the taxation of Social Security benefits is not indexed for inflation. For a single taxpayer, your Social Security benefits start becoming taxable when half your benefit plus your other income exceeds $25,000. Since your future benefits will be about $63,144, half of which is $31,572, you will have triggered the taxation of your benefits without ANY income from any other sources.

This tax inequity for the young is why I have suggested that young people should prefer Roth IRAs over traditional tax-deferred savings. It is also one of the reasons economist Larry Kotlikoff and I advocated scrapping the entire tax system and replacing it with a national sales tax in "The Coming Generational Storm" (MIT Press, $18).

This tax was passed in 1983, when you were 11 years old.

Today, we call that generational inequity. In 1776, the same kind of thing was called "taxation without representation.

Q: In your recent article "Do the Math: Deferring Social Security Pays Off," you mention that your Social Security benefits would increase by $11.63 a month until your monthly benefit would reach $2,623, as opposed to $1,995 if you collected the benefits at an earlier age.

I am having a devil of a time figuring out how and why that number, $11.63, is provided. It seems as if your monthly benefit would increase by $628 a month by waiting the 54 months.

Forgive me if I am overlooking the obvious or failing to understand how Social Security increases its benefits, but if you forgo 54 months of $1,995, it seems that indeed $628 per month will fall short of recouping the difference. -- D.E., Seattle

A: It may make more sense if you consider a shorter time period. If I defer taking benefits for 12 months, I will forgo $24,000 in benefits. My delayed benefit, however, will have increased by $11.63 per month, per month of deferral, as calculated by Social Security.

That's $140 a month over a year, or a $1,675-a-year increase for the remainder of my life.

The same increase will go to my surviving spouse when I die, so the payments are likely to be made for at least 25 years. In addition, the $140-a-month benefit increase will be adjusted for inflation each year.

That leaves us with a question: If I took the $24,000 in benefits and did not have to pay any taxes on them, what investment could I make that would do the same thing?

The $1,675 a year represents a 7 percent return on $24,000. I could invest the money and take the risk of the stock market, but the odds are that I would deplete the investment long before death.

I could purchase a joint and survivor life annuity that guaranteed $1,675 a year, adjusted for inflation. But it would require an investment of $36,000. Giving up $24,000 to have a benefit increase that would require a $36,000 investment looks like a slam dunk.

Deferral looks even better when you consider taxes. If you have enough income, whether working or retired, your Social Security benefits will be taxed. So you'll have less money to invest in a substitute for deferral.

Every year, more and more retirees are discovering that they must pay taxes on their Social Security benefits.


"A Real-Life Case for Delaying Social Security Benefits"