Here is an example of how the Bush privatization plan, including the privatization tax, would work. All numbers have been adjusted for inflation.

The Privatization Tax

Consider a worker born in 1990, who enters the workforce at age 21 and signs up for a private account. She would divert four percentage points of her pay into the private account.

When she retires at age 65, her account balance would be $220,000, if her portfolio earned the historical average return. (This is a mixed portfolio of stocks and bonds, and is based on the assumptions used by the Social Security actuaries.)

Her privatization tax amount is $150,000. (The amount of her tax is calculated by adding up all her contributions to her account, plus a 3 percent rate of interest. This is what the Trust Funds would have earned if she had left her money in the traditional system, and thus, is what she must pay back to the Trust Fund when she retires.)

This privatization tax is paid through deductions from her monthly Social Security check.

The annuitized value of the $150,000 privatization tax is about $10,500. Therefore, her Social Security check is reduced by $10,500 each year. (She would appear to be receiving all of her private account – a $15,000 annual value – but she would be losing $10,500 per year from her Social Security check as a direct consequence of having the private account.)

The Across-the Board Benefit Cut for All

Whether they have a privatized account or not, all future retirees (and disabled workers and survivors) would have an across-the-board benefit cut. This cut is a result of changing the way benefits are calculated, so that they do not keep up with rising wage levels (i.e. the shift from wage-indexing to price-indexing).

For those with private accounts, this cut is in addition to the benefit cut caused by paying the privatization tax out of their monthly checks.

For this same young worker, her across-the-board cut is about $8,200 (a 38 percent reduction from what she would receive under current law – about $21,800.)

Thus, her basic benefit – before the privatization tax is taken out of it – is $13,600. Once the $10,500 privatization tax is taken out, she receives only $3,100 per year from Social Security. Her privatized account would pay her about $15,000 (the annuitized value of the $220,000 account), but overall she would receive $3,700 less in combined benefits as a result of privatization than she would under current law.

Account balance	$220,000
Privatization tax	$150,000
Annual Social Security guaranteed benefit - current law	$21,800
Less benefit cut for all	- $8,200
Subtotal (This is what you receive from Social Security if you have no account)	$13,600
Less privatization tax	-$10,500
Total – Social Security guaranteed benefit	$3,100
Annual income from private account (non-guaranteed)	$15,000
Combined annual income	$18,100
Annual loss due to privatization, compared to current law	- $3,700

Example for a Worker who Earns a Safe Rate of Return

The privatization tax is calculated without regard to what a worker actually earns on his account. If a worker invests conservatively (or has bad luck or poor timing), the privatization tax could consume the entire value of his account. This table shows a worker who invests more conservatively and earns the Treasury-bond rate of interest on his portfolio:

Account balance	$150,000
Privatization tax	$150,000
Annual Social Security guaranteed benefit - current law	$21,800
Less benefit cut for all	- $8,200
Subtotal (This is what you receive from Social Security if you have no account)	$13,600
Less privatization tax	-$10,500
Total – Social Security guaranteed benefit	$3,100
Annual income from private account (non-guaranteed)	$10,500
Combined annual income	$13,600
Annual loss due to privatization, compared to current law	- $8,200

Prepared by the Democratic Staff of the House Ways & Means Committee, 2/21/05.