The Effect of Increasing Earnings Dispersion on Social Security Payroll Tax Receipts

Abstract

This paper decomposes trends in the distribution of earnings over the period 1982-2009 and calculates the effect of increases in dispersion in wage and salary earnings on revenues from the U.S. Social Security Old-Age and Survivors Insurance payroll tax. This tax is levied on earnings, up to a maximum that, with minor changes, has been indexed since 1975 to movements in average wages. If the earnings of very high earners increase more rapidly than those of individuals with earnings below the taxable maximum, the percentage of total earnings that is subject to the tax will decrease and tax revenues will be lower than would otherwise be the case.

Using the Continuous Work History Sample (CWHS), we show that most of the increase in the dispersion of wage and salary earnings over the above period was the result of increases of within-cohort, rather than between-cohort, earnings disparities. Between–cohort disparities increased among women, but not among men. The increases in earnings dispersion would have resulted in a substantial decline in the percentage of workers earning more than the taxable maximum, had it not been for the aging of the outsize boomer cohort into their peak earning years. The percentage of total earnings subject to the payroll tax has declined substantially. To restore this percentage to the 1982 level would require an increase in the 2009 taxable maximum from $106,800 to $144,248, which would approximate the 97th percentile of the earnings distribution, well above historic norms. We estimate that, if there had been no increase in earnings dispersion, 2009 payroll tax receipts from wage and salary earnings would have been 6 percent higher, of which 4 percent can be attributed to increases in within-cohort dispersion.