Upon receipt of the W-2 Wage and Tax Statement from your employer, you may look at line item number 4 on the form, which is labeled “Social Security tax withheld,” and wonder where these automatic deductions have been going. The simple answer is that the Social Security tax, which is withheld by payroll in accordance with law, is used to fund the Social Security program. In reality, it is a bit more complicated than that.

Trust funds for disability and retirement benefits

The Social Security Administration describes Social Security as a U.S. program that offers protection against lost earnings as a result of retirement, death or disability. Under separate Social Security Act amendments, the Old-Age and Survivors Insurance (OASI) and Disability Insurance (DI) programs were established. The OASI Trust Fund became effective in 1939 to provide retirement benefits for retirees and their families as well as survivors of deceased retired workers. The Disability Insurance Trust Fund was created in 1957 to fund reserves for disabled workers and their families.

Taxes collected under the Federal Insurance Contributions Act and Self-Employment Contributions Act are deposited into these funds each business day. OASI and DI Trust Funds are separate accounts held by the U.S. Treasury. This serves the purpose of granting authority to the Social Security Administration to draw on these funds for the disbursement of benefits without having to submit ongoing requests to Congress. Funds that are not used for current benefits or administrative expenses are invested, and the interest earned on those investments are deposited into the trust account. The Board of Trustees is responsible for oversight of trust fund operations and must submit financial status reports to Congress on an annual basis.

Tax collection mechanism

Each October, the Social Security Administration issues a fact sheet with data to go into effect on January 1 of the following year. This includes the percentage of earnings that employers must send to the SSA for Social Security (OASDI) and Medicare (HI), which for 2020 is 15.30%. The employer contributes half and collects the other half from the employee in the form of a payroll tax. Self-employed individuals are responsible for the full Social Security tax and are advised to check with their accountant to determine if a portion can be deducted when filing taxes. The fact sheet also includes maximum taxable earnings for OASDI whereby earnings above a specific amount are not subject to Social Security tax. There is currently no such income limit for Medicare.

For more information, refer to ssa.gov/news/press/factsheets/colafacts2020.pdf.

How Social Security taxes are applied

Contrary to what some people believe, the tax money collected is not set aside for individual taxpayers. The funds the SSA receives from employers and self-employed individuals are used to endow current retirees and those eligible for disability and survivor benefits. To qualify for benefits, most people need 40 credits, which accrue from employee wages or self-employment income over the course of working for at least 10 years.

There is a caveat on current Social Security statements to raise awareness that the law governing benefit amounts may potentially change if payroll taxes become insufficient to cover 100% of scheduled benefits. Keeping retirement benefits solvent has been a subject of extensive public discussion and analysis. For more information, visit ssa.gov, and navigate to Trust Fund FAQs.

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