Rhetoric Rules Debate on Social Security Reform

The first leaves the current Social Security system, in which workers are taxed 12.4% of their income up to $85,500, unchanged, but would allow them to voluntarily dedicate another 2% of their taxable earnings to individual investment accounts.

The second and most closely watched proposal, according to experts, would allow workers to put up to 4% of their Social Security tax contributions -- up to $1,000 -- into individual investment accounts. The remaining portion would go into the existing fund. Under the proposal, the government would track the rate of contribution to the individual account, and reduce regular Social Security benefits proportionally.

Investment options for the retirement accounts would be limited to a quartet of investment funds -- a stock index fund, a bond index fund, a fund of Treasury Inflation-Protected Securities, or TIPS, and a fund investing in government securities. That's similar to the model used by the federal Thrift Savings Plan used by retired government employees. The new Social Security program would allow investors to spread their allocations however they wish, but would create a 50% stock, 50% bond portfolio if they did not make any active allocation, says Olivia Mitchell, who served on the 16-member bipartisan commission and professor at the Wharton School of the University of Pennsylvania.

"This is still a payroll tax, as members of the commission pointed out," she says. "We want to make sure that people don't squander their money and invest it all in the latest high-tech stock that then collapses in a bubble."

That plan also would tinker with the existing benefits system. Benefits are currently indexed to real earnings growth, and would be indexed to the rate of inflation under this plan, which would lower people's initial benefits.

Michael Kitces, a financial planner in Columbia, Md., says the voluntary contribution concept is fine in principle, but won't have much impact in practice.

"It's not terribly useful for most Americans, because they don't have the cash to save in the first place," he says. "Our country has a terrible tendency to spend, and spend and not save, and when we can't spend more, we use credit and go into debt."

Under the second plan, benefits also would shrink because of changes to the system's longevity index, which would pay benefits on the assumption people will live longer, but they'll receive less money each month as a consequence. But people who earned low wages and the survivors of low-wage earners would see their benefits increase.