As the national debate over how to save the Social Security system from insolvency intensifies, increasing attention is being focused on how the program harms the prospects of a secure retirement for different socioeconomic groups. Hispanics in particular are increasingly concerned. According to a July 2001 poll for the Latino Coalition and the Hispanic Business Roundtable, 47 percent of adult Hispanics are not confident that they will receive all of their Social Security benefits when they retire, while only 35 percent have $5,000 or more saved or invested for retirement.¹

Today, only 5 percent of the 33 million Hispanic Americans are over the age of 65 and eligible for Social Security (compared with 12 percent of the population nationally), but this percentage will change dramatically over the next three decades.² Having paid into Social Security over a lifetime of work, many of these Hispanic Americans will find themselves entering retirement at a time when the trustees of the Social Security fund predict the trust fund will have been exhausted (around 2038).³

As a 1998 Heritage Foundation analysis of Social Security's rate of return found, single-income Hispanic families with two children, whose wage earner was born after 1950, can expect a return of almost 4 percent on their contributions to the program. And that expected return declines for subsequent generations. Moreover, a single Hispanic male born in 1975 who earned about $17,900 in 1996 can expect a return of only 1.44 percent.⁴

This is troubling to Hispanic Americans, who as a group have not always found financial stability in retirement. Demographic factors, such as lower lifetime earnings and less participation in private retirement savings vehicles, mean that Hispanics have come to depend more on Social Security for income in their old age. While these demographics may change over time, the potential insolvency of the Social Security trust fund is a concern. Like other groups of Americans, Hispanics would prefer financial security and an opportunity to build wealth that they can pass on to their families. If that same single Hispanic male had invested those same payroll tax dollars in super-safe long-term U.S. Treasury bonds, for example, he would expect a return of at least 2.8 percent--almost twice what he can expect from Social Security.⁵

Hispanics have a growing interest in Social Security reform that increases their personal savings and retirement security but that does not put the decisions in the hands of bureaucrats whom they do not know. Establishing within Social Security a system that includes personally owned and managed retirement accounts, using a portion of one's payroll tax, would achieve those goals by creating better retirement income, increasing wealth in low- and moderate-income households, and encouraging independence from the government.

HISPANIC AMERICANS AND SOCIAL SECURITY

The Social Security system in America was designed in the 1930s for a vastly different and primarily industrial workforce. It was intended to provide a safety net against poverty in old age by transferring wealth from higher-income workers to lower-income workers who could not save for retirement. However, those working in less stable and part-time sectors of the economy, such as agriculture, domestic service, and seasonal employment, as well as the self-employed, were excluded from the program.⁶ In the decades since Social Security began, many Hispanic Americans have worked in the informal labor force and therefore were unable to contribute to Social Security. The program simply ignored many Americans who needed retirement security the most.

The Social Security system now includes most workers, and Hispanic Americans, though still a prominent group in low-wage sectors of the economy, are moving up the economic ladder more rapidly. The poverty rate for Hispanics in America is at an historical low.⁷ Roughly 45 percent of Hispanic households now own their own homes.⁸ Hispanics are starting businesses in record numbers.⁹ And many continue to live in Hispanic communities bound by a common language, religion, and ancestral heritage, contributing to tight-knit families. In particular, their ties to older generations are uncommonly strong. This traditional support for family and community provides an exciting opportunity for Hispanics to build wealth and invest in community development.

The Hispanic population is growing rapidly, and the percentage of Hispanics age 19 and under has surpassed the total national share of this age group among non-Hispanic whites in America.¹⁰ (See Table 1.) Hispanic Americans are also living longer; their life expectancy at birth is second only to that of Asian Americans.¹¹ (See Table 2.) Hispanic workers, who will make up about one-quarter of the working-age population in the middle of this century, will bear enormous financial responsibility for supporting the program's benefits in the decades to come.¹² As today's young Hispanic population enters the workforce and the number of Hispanics age 65 and over grows more rapidly, Hispanic Americans are finding they have a larger stake in the proposals before Congress to reform the ailing Social Security system.

UNSTABLE RETIREMENT PROSPECTS

When the Social Security Program began in 1935, payroll taxes were set at 2 percent of up to $3,000 in annual wages--1 percent contributed by the employee and 1 percent by the employer. Today, the combined payroll tax amounts to 12.4 percent of up to $80,400 in annual wages. The retirement portion of Social Security accounts for 10.6 percent of the payroll taxes. As these Social Security taxes have risen, Americans have had fewer dollars left over for savings.

The Heritage Foundation Center for Data Analysis study found that average-income Hispanic single males born after 1950 can expect no more than a 1.4 percent to 2.3 percent return on their contributions to Social Security.¹³ (See Table 3.) While this is better than the return for similar African-Americans born in 1960 (-0.96 percent), for example, it is dismal compared with the return for those who invest in a conservative portfolio of 50 percent equities and 50 percent U.S. Treasury bills (about 4.95 percent).¹⁴

Factors such as savings habits, familiarity with investments, and financial discipline have much to do with private savings, but data from the Federal Reserve Bank's 1998 Survey of Consumer Finances reveal a strong correlation between family income and assets, with only about 70 percent of families with income under $10,000 holding some type of asset.¹⁵ (See Table 4.) Non-whites and Hispanic Americans are far less likely than their white counterparts to hold assets.¹⁶ (See Table 5.)

Just over 30 percent of Hispanics age 65 and older receive asset income today, compared with 68 percent of their white counterparts.¹⁷ In fact, fewer than one in five Hispanics age 65 and older are covered by a public or private pension plan other than Social Security; receive annuities; or own an IRA, Keogh, or 401(k) plan.¹⁸ Absent these types of assets, the opportunities for Hispanics to pass on wealth to their heirs or to use it for community investment and redevelopment are severely limited.

A FAILING SYSTEM

There is recognition across the political spectrum that the current Social Security system is unsustainable in its current form and that some type of reform is imperative. If left unreformed, the system will be able to pay out only about two-thirds of the benefits it has promised by 2075.¹⁹ According to the federal government's own actuaries, to keep the system solvent could require payroll taxes to climb to an astonishing 20 percent of taxable payroll²⁰ in addition to federal and state income taxes, Medicare payroll taxes, and sales taxes.

Such an approach would crowd out private retirement savings even faster and throw more Hispanic workers and retirees, like millions of other Americans, into poverty. Today, the average Hispanic senior's total annual income is just over $14,000, including almost $7,600 in Social Security payments,²¹ other wages, public assistance, pensions, and interest income. Clearly, reform is needed.

A NEW APPROACH

A September 2000 study by the National Bureau of Economic Research (NBER) reveals that creating a system of private retirement accounts (PRAs) would allow Americans to accrue far better benefits in retirement than would be realized through an increase in the payroll tax.²² The study, conducted by NBER economist Martin Feldstein and Harvard University Kennedy School of Government economist Jeffrey Liebman, compared the Social Security program with a 15.4 percent payroll tax rate²³ to two reform options: (1) a personal retirement account (PRA) program based on a 9 percent contribution and (2) a mixed plan that includes a PRA contribution. (See Table 6.)

This important study is based on government data that include actual lifetime earnings and benefits for individuals born between 1925 and 1929. Its findings demonstrate that both of these reform options could have a significant impact--good or bad--on Hispanics' financial well-being or risk of poverty in old age. Personal retirement accounts, even with modest rates of return, have an enormous potential to boost retirement income and reduce poverty dramatically.

Private retirement accounts also have the potential to promote intergenerational wealth for all socioeconomic groups. For a 1999 NBER study, Federal Reserve Bank of Cleveland economist Jagadeesh Gokhale, Boston University economist Laurence J. Kotlikoff, and economists James Sefton and Martin Weale from the London-based National Institute of Economic and Social Research developed a model to examine such factors that affect intergenerational wealth inequality as skill differences, marriage, death, and progressive income taxation.

Contrary to popular belief, the authors of the 1999 NBER study found that inheritances do not propagate wealth inequality. Rather, as they explain, "Although it may seem counterintuitive, inherited wealth may be more evenly distributed than non-inherited wealth and may reduce overall wealth inequality."²⁴ Instead, they found that Social Security is a primary factor in wealth inequality, since it "disproportionately disinherits the lifetime poor."²⁵

The potential benefits of converting the Social Security system to a program in which Hispanics, and all workers, can participate in asset accumulation and wealth creation make the effort to reform Social Security--the traditional "third rail" of American politics--more palatable to lawmakers. The impact of their reforms would help not only seniors, but also future generations of Americans to find financial security.

SUPPORT FOR REFORM

More than 65 years after the Social Security program was created, and with the original program's basic structure still intact, Hispanic Americans have begun to express their strong support for reforming the federal government's retirement system. A national survey of 1,000 Hispanic adults in July 2001, conducted for the Latino Coalition and the Hispanic Business Roundtable, found that 62 percent favored voluntary personal retirement accounts when asked:

Some people have proposed changing the Social Security system so that you can voluntarily put some of the money you now pay in Social Security taxes into a personal retirement account in your own name, like an IRA or a 401(k) program, and invest it as you see fit. While the guaranteed Social Security benefits you get upon retirement would be reduced, you could potentially get higher returns on your personal account and all the money in this account would belong to you. Would you favor or oppose changing the Social Security system in this way?²⁶

This strong support for a privatized approach is consistent with other national surveys.²⁷

There is no reason why Hispanic workers, and all American workers, should be denied the option of diverting a portion of their payroll taxes into a personal retirement account to provide for their retirement and their family's needs in the future. Merely recycling the old approaches to Social Security reform--such as increasing the payroll tax or the retirement age--would only bring further harm to the nation's elderly. Proposals that move away from the program's outdated design toward individual ownership and choice will best meet the needs of all American workers, and their families and communities.

Policymakers therefore should carefully consider the benefits of proposals that would allow American workers to:

• Divert a portion of their payroll taxes into personal retirement accounts that they control and own;

• Choose their own age to retire if they can demonstrate financial security; and

• Bequeath their accumulated assets to their heirs, thereby contributing to the well-being of future generations of Americans and communities.

Such reforms would enable Hispanics, and all Americans, to build their own financial security.

CONCLUSION

Rather than attempting to perpetuate an outdated Social Security system that excludes Hispanics from fully participating in the American dream, lawmakers should pursue reforms that promote private retirement savings and financial independence in old age. All Americans desire income security and seek an to opportunity to build financial stability for their families. All that is needed is political will.

Naomi Lopez Bauman is a research associate for the Hispanic Business Roundtable and a member of The Heritage Foundation's Mandate for Leadership Working Group on Social Security Reform.