This text was adapted by The Saylor Foundation under a Creative Commons Attribution-NonCommercial-ShareAlike 0 License without attribution as requested by the work’s original creator or licensee. Preface Introduction and Background

The primary insurance amount (PIA) is the basic unit used to determine the amount of monthly Social Security benefits. PIA is computed from a person’s average indexed monthly earnings. In the calculation of average indexed monthly earnings (AIME), workers’ earnings for prior years, up to the maximum Social Security wage base (see Table 18.12 "OASDI Annual Wage Base for Tax Purposes" for the OASDI annual wage base), are adjusted to what they would have been if wage levels in earlier years had been the same as they are now. This is the indexed amount.

Table 18.6 Benefit Calculation Examples for Workers Retiring in 2009

We will use the examples provided by the Social Security Administration as a learning tool here. First, we focus on the calculation of the AIME. For each case, we see the columns labeled “nominal earnings.” Indexing brings nominal earnings up to near-current wage levels. For each case, the table shows columns of earnings before and after Indexing. The highest thirty-five years of indexed earnings and the corresponding average monthly amounts of such earnings are used for the benefit computation. The result is the AIME. The indexing requires some special computation. Consequently, there is no easy way to make an estimate of one’s PIA. It is not as simple as finding average wages and consulting a table. The Social Security Administration has computerized wage histories for all workers, and the PIA calculation is made when an application for benefits is processed. The Social Security Administration furnishes annually the calculation of each insured’s PIA. If a person has not received the statement, the Social Security Administration will furnish a record of the historical Social Security earnings and PIA upon request. The Social Security Administration Web site also has an online calculator.

After the AIME is determined, an individual’s PIA in 2009 would be determined by the formula in Table 18.7 "PIA Formula for an Individual in 2009". The formula shows that Social Security benefit levels, expressed as replacement ratios, are weighted in favor of lower-income workers. Here, a replacement ratio is defined as the Social Security benefit divided by the AIME.

Table 18.7 PIA Formula for an Individual in 2009

The three AIME ranges represented in the formula are known as bend points. The bend points represent the dollar amounts at which the primary insurance amount formula for Social Security benefits changes. The bend points increase as average wages in the economy increase. This is shown in Table 18.8 "Examples of PIA Calculations for the 2009 Retirement Cases Illustrated in ". The bend points in 2009 are $744 and $4,483, as you can see in Table 18.7 "PIA Formula for an Individual in 2009". These bend points apply to workers who become eligible for benefits (at age sixty-two) in 2009. A table of bend points for past years is available at http://www.ssa.gov.

Table 18.8 Examples of PIA Calculations for the 2009 Retirement Cases Illustrated in Table 18.5 "Who Gets Monthly Benefits If a Fully Insured Worker Is Disabled?" Case A—Retirement at Age Sixty-Two and Case B—Retirement at Age 65

Formula Bend Points
Case	AIME	First	Second	Formula Applied to AIME
A	$3,370	$744	$4,483	.9(744) + .32(3370 − 744) = $1,509.92
B	3,995	627	3,779	.9(627) + .32(3779 − 627) + .15(3995 − 3779) = $1,605.34

Source: Social Security Administration, October 16, 2008, Accessed April 5, 2009,http://www.ssa.gov/OACT/ProgData/retirebenefit2.html.

Table 18.8 "Examples of PIA Calculations for the 2009 Retirement Cases Illustrated in " illustrates the straightforward calculation for the worker in Case A who retires at age sixty-two. For the worker who retires in 2009 at age sixty-five, the bend points are the same as those in 2006 (as if he or she retired at age sixty-two). Thereafter, the benefits are adjusted to reflect the COLA of 3.3 percent, 2.3 percent, and 5.8 percent, respectively. The resulting PIA is $1,605.34.

As described above, the AIME determines the PIA of a retired or disabled worker; the benefit levels for other beneficiaries are a percentage of the PIA. If an individual qualifies as both a worker and as the spouse of a worker, the beneficiary will receive whichever PIA is greater, but not both. Other factors may also affect the benefit amount.

Table 18.9 The PIA Formula for Maximum Family Benefit, 2009

Social Security benefit amounts are increased annually by automatic cost-of-living adjustments (COLAs) linked to increases in the consumer price index (CPI). In addition, workers receiving Social Security disability income may have Social Security benefits reduced to offset other disability benefits received from governmental programs, such as workers’ compensation, to reduce the moral hazard of malingering. Legislation enacted in 1973 provides for automatic cost-of-living adjustments (COLAs). The theory is to prevent inflation from eroding the value of Social Security and Supplemental Security Income (SSI) benefits. The COLA for 2008 is 5.8 percent for both Social Security benefits and SSI payments, as you can see in Table 18.10 "Automatic Social Security Cost of Living Adjustments (COLAs)".

Many people retire before or after the normal retirement age, which affects the PIA for those individuals. For an individual retiring past the normal retirement age, the final benefit amount is higher than the PIA formula reveals, as illustrated in the example of Case B in Table 18.8 "Examples of PIA Calculations for the 2009 Retirement Cases Illustrated in ".

The Social Security retirement benefit may be reduced for a retiree who is younger than normal retirement age and whose annual earned income exceeds the retirement earnings exempt amount; this provision is called the earnings test. Its purpose is to limit monthly cash benefits for retirees who have earned income and to reduce the cost of the Social Security program. As Table 18.11 "Annual Retirement Earnings Test Exempt Amounts for Persons Under the Normal Retirement Age" shows, a beneficiary attaining the normal retirement age after 2002 is exempt from reduction of Social Security benefits regardless of the amount of earned income. The earning test applies only to early retirement.

Table 18.11 Annual Retirement Earnings Test Exempt Amounts for Persons Under the Normal Retirement Age

Annual Retirement Earnings Test Exempt Amounts
Year	Lower Amount [5]	Higher Amount [6]
2000	$10,080	$17,000
2001	10,680	25,000
2002	11,280	30,000
2003	11,520	30,720
2004	11,640	31,080
2005	12,000	31,800
2006	12,480	33,240
2007	12,960	34,440
2008	13,560	36,120
2009	14,160	37,680

Source: Social Security Administration, October 16, 2008, Accessed April 5, 2009, http://www.ssa.gov/OACT/COLA/rtea.html

In 2008, a beneficiary under the normal retirement age would lose $1 of benefits for every $2 earned above $13,560. The beneficiary would also lose $1 for every $3 above the higher exempt amount, $36,120.

Social Security benefits are financed through payroll taxes paid by employers and employees and by a special tax on earnings paid by the self-employed. The tax rate for employers and employees is 6.2 percent for OASDI, up to a maximum amount of earnings called the wage base level, as shown in Table 18.12 "OASDI Annual Wage Base for Tax Purposes", and 1.45 percent for HI (Medicare Part A) on all earnings. The tax rates scheduled under current law are shown inTable 18.13 "Tax Rates Paid on Wages and Earnings". Those who elect Medicare Part B coverage pay monthly premiums via deductions from their Social Security benefits checks.

Table 18.12 OASDI Annual Wage Base for Tax Purposes

Table 18.13 Tax Rates Paid on Wages and Earnings

The funds collected from payroll taxes are allocated among three trust funds. One trust fund is for retirement and survivors’ benefits; the second is for disability insurance; and the third is for hospital insurance, or Medicare Part A. Medicare Parts B and D, supplementary medical benefits, are financed by monthly premiums from persons enrolled in the program, along with amounts appropriated from the general revenue of the federal government. These funds are deposited in a fourth trust fund, the supplementary medical insurance trust fund.

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  Employment taxes paid by employees, their employers, and self-employed persons
  
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  Income from the taxation of benefits
  
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  Interest on investments made by the program
  
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  Other income such as donations and Treasury reimbursements
  

The Social Security program is administered by the Social Security Administration, an agency of the United States Department of Health and Human Services. Local service is provided by offices located in the principal cities and towns of the fifty states and Puerto Rico. Applications for Social Security numbers and the various benefits as well as enrollment for the medical insurance plan (discussed next) are processed by the district office. The administration is set up to help beneficiaries in catastrophic times, as was evident following Hurricane Katrina. Because so many people were displaced, the Social Security Administration created emergency offices and stations to continue immediate payments to the evacuees. ^[7]

In this section you studied the features of Social Security, a compulsory social insurance program paying old age, survivors’, and disability (OASD) benefits:

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  A person must be in the work force a minimum number of quarters, during which earnings must meet minimum amounts to be eligible for Social Security benefits.
  
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  The level of benefit depends on a worker’s status as fully insured, currently insured, or disability insured.
  
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  Fully insured workers, their aged spouses, and dependent children are eligible to receive retirement (old-age) benefits beginning at the worker’s retirement age (which depends on birth year) and disability benefits.
  
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  Benefits are reduced in the case of early retirement and increased in the case of late retirement.
  
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  A fully insured worker under age sixty-five with a medical condition that prevents substantial gainful work can receivedisability benefits after a waiting period if he or she has been disabled for twelve months, is expected to be disabled at least twelve months, or has a disability expected to result in death.
  
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  Survivors (aged spouses, disabled spouses, and dependents) of deceased fully, currently, or disability insured workers are also eligible to receive old-age survivors’ or disability benefits.
  
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  The primary insurance amount (PIA), computed from average indexed monthly earnings (AIME) up to the Social Security wage base, is used to determine the amount of monthly benefits.
  
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  The PIA formula is weighted to help lower-income workers at three different bend points—the sum of these amounts equals the monthly benefit, with COLAs made annually.
  
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  Benefits are subject to (1) a monthly maximum that can be paid on a worker’s earnings record, at which survivors’ benefits are reduced proportionately, and (2) an earnings test, whereby benefits are reduced for retirees whose earned income exceeds the retirement earnings exempt amount.
  
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  Social Security benefits are financed through payroll taxes on employers and employees at 6.2 percent (OASDI) and 1.45 percent (HI) up to the wage base level (adjusted annually).
  
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  Benefits are paid through the Social Security trust fund, which is made up of employment tax revenues, benefit income tax revenues, interest on investments, and other income.
  
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  The Social Security program is a pay-as-you-go system administered by the Social Security Administration (part of the Department of Health and Human Services), with offices to handle applications in each state.
  

1. 
   How does a worker become fully insured under Social Security? What benefits are fully insured workers entitled to?
   
2. 
   Explain the concept of arriving at AIME. How do you compute the PIA?
   
3. 
   How does the earnings test affect Social Security benefits?
   
4. 
   Social Security benefits are financed largely through payroll taxes. The more you earn (up to the maximum earnings base), the more tax you pay. Income benefits, however, favor lower-income workers. Explain why lower-income people are favored.
   
5. 
   The Baylor Crane Construction Company is a Virginia-based builder with 1,750 full-time and 300 part-time employees. The company provides all the social insurance programs required by law and most standard employee benefits plans. Last year, Baylor Crane suffered a high severity of losses when the top five floors of a high rise collapsed in Virginia Beach during strong winds. Luckily, most workers escaped injuries, except six workers who stayed to secure the building. Three of them sustained severe injuries and Johnny Kendle, the sixty-four-year-old supervisor, was killed. The injured workers are back at work except for Tom Leroy, who is still on disability. His prognosis is not good.
   

1. 
   What social insurance programs are provided by the company?
   
2. 
   Compare the benefits provided by each of the social programs.
   

1. 
   Dan Wolf, Duncan Smith, and Jim Lavell are employees of the Happy Wood Company. Fifteen months ago, Dan Wolf was injured when a log fell on him and hurt his back. He has not been able to work since. Duncan Smith, who had fifteen years of service with the company, was killed in that accident. He left a wife and five children. About a month later, Jim Lavell injured his back at home and he, too, has been unable to work since the accident.
   

1. 
   Based on the benefits of the social insurance programs you described above, compare the type of benefits Dan, Duncan, and Jim (or their families) are receiving.
   
2. 
   What are the eligibility conditions that must be met to receive these benefits?
   

[1] Social Security Administration, “If You Are Blind or Have Low Vision—How We Can Help,” SSA Publication No. 05-10052, January 2009, ICN

462554, http://www.ssa.gov/pubs/10052.html (accessed April 4, 2009).
[2] Social Security Administration, The 2008 OASDI Trustees Report, Section VI(G): Analysis of Benefit Disbursements from the OASI Trust Fund with Respect to Disabled Beneficiaries, June 11, 2008, Accessed April 4, 2009,http://ssa.gov/OACT/TR/TR08/VI_OASIforDI.html#97986.
[3] To be eligible for “special minimum” benefits, a worker must earn at least a certain portion (25 percent in years 1990 and before, and 15 percent in years following 1990) of the “old law” contribution and benefit base.
[4] The COLA for December 1999 was originally determined as 2.4 percent based on CPIs published by the Bureau of Labor Statistics. Pursuant to Public Law 106-554; however, this COLA is effectively now 2.5 percent.

[5] Applies in years before the year of attaining NRA.

[6] Applies in the year of attaining NRA for months prior to such attainment.
[7] Social Security Administration, “Social Security Responds to Hurricane Katrina, Agency Issues More Than 30,000 Emergency Checks to Date,” Social Security Press Release, September 9, 2005, Accessed April 5, 2009,http://www.ssa.gov/pressoffice/pr/katrina-pr.html.

18.2 Medicare
LEARNING OBJECTIVES

In this section we elaborate on the portion of the Social Security program known as Medicare:

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  Medicare Part A—hospital insurance
  
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  Medicare Part B—supplementary medical insurance
  
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  Medicare Part C—managed care medical insurance
  
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  Medicare Part D—prescription medication insurance
  
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  Beneficiary costs under all Medicare parts
  

Anyone who is eligible for Social Security or railroad retirement benefits at age sixty-five is also eligible for Medicare Part A—hospital insurance benefits. No premium is required because workers have already paid Medicare A taxes. A worker does not have to retire to be covered for hospital benefits; however, Medicare is the secondary payer for persons who continue to work between ages sixty-five and sixty-nine and have medical coverage through their employers. Individuals age sixty-five and over who are not eligible for Social Security or railroad retirement benefits may enroll in Medicare Part A by paying premiums. The Medicare Part A plan provides the following hospital-related benefits:

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  In-patient hospital services
  
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  Posthospital home health services
  
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  Hospice care
  

For Medicare Part A, the deductible paid by the beneficiary was $1,068 in 2009, up $44 from the deductible of $1,024 in 2008.

Anyone eligible for Part A, the basic hospital benefits plan, and anyone age sixty-five or over is eligible for Medicare Part B—medical benefits, Medicare Part C—managed care benefits, and Medicare Part D—drug benefits. Those receiving Social Security or railroad retirement benefits are enrolled automatically unless they elect not to be covered. The monthly premium paid by beneficiaries enrolled in Medicare