This one's for you! I know you love to pick the nits.
"It was clear as mud but it covered the ground,
and the con-fus-ion made me head go round!"
Boy, I Had A Notion About This
By The MinuteMan
Whoa. When I said last week (near the bottom) that the Bush's Social Security reform proposal included a Notional Offset Account with the potential to provide a comedy classic, I had no idea.
The Washington Post took a stab at the concept, and completely fluffed it. Then, they re-wrote their description - highlights are all with Brad Delong, who argues that the revision is inconsequential.
We beg to differ. But rather than rely on the WaPo, let's see how the CBO described the Notional Offset last summer:
CSSS Plan 2 would introduce IAs by:
* Allowing workers to divert 4 percentage points of their payroll taxes, up to $1,000, to a personal account, which would belong to covered workers;
* Disbursing the principal and interest in those accounts--in the form of annuities that would supplement Social Security benefits--to workers at retirement or to their heirs if they died before retirement; and
* Reducing the traditional benefit by the annuitized value of a notional (or theoretical) account, equivalent to the diverted payroll taxes accrued at the Treasury interest rate minus 1 percentage point.
This is not that different from what the WaPo told us for folks who make it to age 65. However, the difference is vast for someone who dies prior to 65. In that case, it seems quite clear from this description that the full value of the personal account goes to the heirs; the age 65 annuity that might have been reduced never comes into existence, so the loan is, in effect, cancelled.
For folks who are staggered by the seeming complexity, take a breath - people who make 100% of their contributions to the normal plan get 100% of their normal benefit. People who contribute partly to the normal plan and partly to their personal account ought to have their "normal" benefit reduced, right? Well, this Notional Offset is a way to keep track of how much they diverted from the normal plan, so that the appropriate reduction can be made to their benefit. Folks who die early (do Brits call them "early leavers"? No?) get the portion of their lifetime tax payments that have accumulated in the personal account.
It is probably worth noting that the investment alternatives include some pretty safe bond funds (including one that holds the same type of bonds as the Social Security Trust Fund).
UPDATE: K Lo is always fascinating.
We excerpt the (coy and disingenuous) Bush Social Security Commission explanation below. Enjoy!
How the Account Offset Functions
For workers who choose personal accounts, benefits from the traditional system are offset at a given interest rate (3.5 percent in reform model 1; 2 percent in option 2; and 2.5 percent in option three).
The offset functions in the following way: contributions to the account are compounded at the stated offset interest rate, producing a notional total at retirement. This notional total is converted to a monthly annuity payment, which offsets the individual's traditional Social Security benefit.
As long as the personal account earns a higher average rate of return than the offset rate, benefits derived from the account will exceed benefits offset from the traditional system and the individual's total income will increase. Under this formulation, the individual need not master the complexities of Social Security’s benefit calculation. He knows that he is getting more benefits than he is giving up if his personal account return exceeds the offset interest rate.
Offsets under the plans are not taken from the personal accounts, and do not in any way depend on the assets in the accounts when the individual retires. The offsets are a function of the initial contributions to the accounts and represent a voluntary choice to invest those contributions in personal account benefits instead of "buying" benefits from the traditional Social Security system. None of the models reviewed by the Commission involve such reductions in Social Security benefits at the point of retirement. Individuals would retain ownership over 100 percent of the proceeds in their personal accounts, and no adjustments to traditional Social Security benefits would be made as a function of the accumulations in the accounts. The adjustment depends only on contributions to the account and the offset interest rate charged on these contributions.
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