Introduction

Old-Age and Survivors Insurance (OASI) and Disability Insurance (DI), commonly referred to on a combined basis as OASDI, are social insurance programs that protect insured workers and their family members against loss of income due to old age, disability, or death. These programs are often referred to as Social Security. Most Social Security beneficiaries are retired or disabled workers whose monthly benefits depend on their past earnings, their age, and other factors. Benefits are also paid to workers' dependents and survivors based on the earnings of the insured workers.

Social Security has a significant impact on beneficiaries, both young and old, in terms of income support and poverty reduction.¹ Under current law, Social Security's revenues are projected to be insufficient to pay full scheduled benefits after 2035.² For both of those reasons, Social Security is of ongoing interest to policymakers. Most proposals to change Social Security would change the benefit computation rules. Evaluating such proposals requires an understanding of how benefits are computed under current law.

This report provides several examples of how benefits are computed under current law. To help illustrate the benefit formula, this report makes use of hypothetical earners. Wages for hypothetical earners are expressed at each age as a percent of the Social Security Administration's (SSA's) Average Wage Index (AWI).³ Hypothetical workers are assumed to work continuously from age 21 through 61 (i.e., 40 years of covered employment). Throughout this report, examples of benefit calculations are shown for very low, low, medium, and high lifetime hypothetical earners as well as maximum earners.⁴ This technique demonstrates how Social Security benefits are computed under current law, how career earnings affect benefit levels, and how program changes may affect beneficiaries. In addition, this technique illustrates how indexed parameters that change year to year affect benefit amounts. Appendix A provides more details, including distributional information, on wages of hypothetical earners born in 1953. This year is chosen simply because it is the youngest cohort of workers and beneficiaries for which complete information on indexed earnings and program-specific factors are known.

Eligibility and Insured Status

Workers become eligible for Social Security benefits for themselves and for their family members by working in Social Security–covered employment.⁵ Generally speaking, about 94% of workers earn wages or self-employment income in Social Security–covered employment.⁶ While working in covered employment, workers earn quarters of coverage (QCs), or credits. The amount needed for a QC increases annually with growth in average earnings in the national economy as measured by the AWI (see Table B-1).⁷ In 2023, a worker will earn one credit or QC for every $1,640 of earnings, up to four per year. Therefore, a worker earning $6,560 in covered employment at any point in the calendar year would be credited with the maximum number (i.e., four) of QCs for that year.

Insured Status

To be eligible for most benefits, workers must be fully insured, which requires one QC for each year elapsed after the worker turns 21 years old—with a minimum of six QCs and a maximum of 40 QCs—and the year before the worker attains age 62, the year before the worker dies, or the year before the worker becomes disabled. A worker is first eligible for Social Security retirement benefits at 62, so to be eligible for retirement benefits, a worker must generally have worked for 10 years. Workers are permanently insured when they are fully insured and will not lose fully insured status when they stop working under covered employment, for example, if a worker has the maximum 40 QCs.

Benefits may be paid to eligible survivors of a worker who was fully insured at the time of death.⁸ Some dependents are also eligible for survivors benefits if the deceased worker was currently insured, which requires earning six QCs in the 13 quarters ending with the quarter of death.

To be eligible for disability benefits, workers must also satisfy a recency of work requirement. Workers aged 31 or older must have earned 20 QCs in the 10 years before becoming disabled. Fewer QCs are required for younger workers.⁹

In the case of workers having work history in multiple countries, international totalization agreements allow workers who divide their careers between the United States and certain countries to fill gaps in Social Security coverage by combining work credits under each country's system to qualify for benefits under one or both systems.¹⁰

Amount Needed to Earn Credits

As discussed, in 2023, a worker will earn one QC for each $1,640 of covered earnings.¹¹ Therefore, a worker earning $6,560 in covered employment at any point in the calendar year would be credited with the maximum number (i.e., four) of QCs for that year. Alternatively, if a worker earned $4,920 in covered employment in 2023, he or she would be credited with three QCs for that year ($4,920 divided by $1,650 equals three).

Average Index Monthly Earnings

The first step of computing a Social Security benefit is determining a worker's average indexed monthly earnings (AIME), a measure of a worker's past earnings.

A worker's Social Security benefit is based on his or her earnings during covered employment. That is, only earnings from years of covered employment are included in the calculation. Earnings that were not covered (i.e., not subject to the Social Security payroll tax) are not included in the calculation.

Under current law, the Social Security payroll tax is applied to covered earnings up to an annual limit, or taxable maximum. The taxable maximum is indexed to national average wage growth for years in which a cost-of-living adjustment (COLA) is payable. The taxable maximum will increase from $147,000 in 2022 to $160,200 in 2023. This level of earnings is both the contribution base (i.e., amount of covered earnings subject to the Social Security payroll tax) and the benefit base (i.e., amount of covered earnings used to determine benefits). Earnings in excess of the taxable maximum are not subject to the Social Security payroll tax and are not factored into benefit calculations.

Wage Indexing

Rather than using the amounts earned in past years directly, the AIME computation process first updates past earnings to account for the growth in overall economy-wide earnings. That is done by increasing each year of a worker's taxable earnings after 1950 by the growth in average earnings in the economy, as measured by the AWI, from the year of work until two years prior to eligibility for benefits, which for retired workers is at age 60. (Workers are first eligible for benefits at age 62.¹²) For example, the national average wage grew from $32,155 in 2000 to $41,674 in 2010. So if a worker earned $20,000 in 2000 and turned 60 in 2010, the indexed wage for 2000 would be $20,000 × ($41,674/$32,155), or $25,921. Earnings from later years—for retired workers at ages 60 and above—are not indexed.

Number of Years

For retired workers, the AIME equals the average of the highest 35 years of indexed earnings divided by 12 (to change the benefit from an annual to a monthly measure). Those years of earnings are known as computation years. If the person worked fewer than 35 years in employment subject to Social Security payroll taxes, the computation includes some years of zero earnings.

In the case of workers who die before turning 62 years old, the number of computation years is generally reduced below 35 by the number of years until he or she would have reached 62. For example, the AIME for a worker who died at 61 is based on 34 computation years.

For disabled workers, the number of computation years depends primarily on the age at which they become disabled, increasing from two years for those aged 24 or younger to 35 years for those aged 62 or older.¹³

AIME for Hypothetical Workers Born in 1953

Table 1 shows the AIME for the four hypothetical scaled earners and maximum earner for the 1953 birth cohort. (Nominal annual earnings for this cohort are shown in Table A-2, and wage-indexed earnings for this cohort are shown in Table A-3.) These workers, born in 1953, are assumed to have entered the labor force in 1974 (i.e., age 21) and worked continually until 2015 (i.e., age 62). As discussed and shown in Table A-3, annual earnings until age 60 are wage-indexed using the AWI, whereas earnings for later years are kept at nominal values (reflected by an index factor of 1.00 in Table A-3). The AIME is calculated by taking the total of the highest 35 years of earnings and dividing by 420 (the number of months in 35 years).

Primary Insurance Amount

The next step in determining a benefit is to compute the primary insurance amount (PIA) by applying a benefit formula to the AIME.

First, the AIME is sectioned into three brackets (or segments) of earnings by two dollar amounts known as bend points. In 2023, the bend points will be $1,115 and $6,721.¹⁴ Those amounts are indexed to the AWI, so they generally increase each year.¹⁵

Three factors—fixed by law at 90%, 32%, and 15%—are applied to the three brackets of AIME to allow for a progressive benefit formula. For workers with AIMEs of $1,115 or less in 2023, the PIA is 90% of the AIME. Because the other two factors are lower, the share of earnings that is replaced by the Social Security benefit declines as AIMEs increase. For workers who become eligible for retirement benefits, become disabled, or die in 2023, the PIA is determined as shown in the examples in Table 2. Benefits are based on covered earnings. Earnings up to the maximum taxable amount ($160,200 in 2023) are subject to the Social Security payroll tax. If a worker earns the maximum taxable amount in every year of a full work history, becomes eligible in 2023, and claims benefits at the full retirement age (FRA), the maximum PIA is $3,627.¹⁶

PIA for Hypothetical Workers Born in 1953

Table 2 shows how to calculate the PIAs for the four hypothetical scaled earners and the maximum earner for the 1953 birth cohort (who reached age 62 in 2015). This table highlights several features of the benefit formula. First, the formula results in a progressive replacement rate—measured as the percent of AIME that the PIA replaces. That is, the replacement rate is higher for lower earners (i.e., 83% for very low earners) than for higher earners (i.e., 37% for high earners). Second, the benefit formula results in individual equity. Specifically, the more a worker earns (and pays in payroll tax), up to the taxable maximum, the higher the PIA. For instance, a hypothetical low earner born in 1953 had monthly wage-indexed earnings of about $1,676, resulting in a PIA of $1,015.40, whereas a maximum earner born in the same year had wage-indexed earnings of about $9,066 and thus a PIA of $2,685.50. The maximum earner paid the largest possible amount in payroll tax in each year of employment, while the low earner paid considerably less.¹⁷ His or her PIA is close to three times that of the low earner.

Benefit Amounts

The PIA calculated in the previous section may not be the benefit amount a worker will receive at retirement. The PIA is further adjusted for age at benefit claiming and COLAs to determine the benefit amount. Also, PIAs may be recomputed to capture additional covered earnings.¹⁸

Age

The earliest eligibility age is the age at which a retired worker can first claim benefits. The full retirement age (FRA, also called the normal retirement age) is the age at which a worker can receive the full PIA, increased by any COLAs. The FRA was 65 for people born before 1938, but the Social Security Amendments of 1983 (P.L. 98-21) raised the FRA for those born later, as shown in Table 3.

Adjustments for Early and Late Benefit Claim

Retired workers may claim benefits when they turn 62 years old, but the longer that they wait, the higher their monthly benefit. The higher monthly benefit is intended to offset the fewer number of payments that people who delay claiming will receive over their lifetimes so that the total value of lifetime benefits is approximately the same based on average life expectancy, regardless of when they claim.¹⁹

The permanent reduction in monthly benefits that applies to people who claim before the FRA is an actuarial reduction. It equals five-ninths of 1% for each month (6⅔% per year) for the first three years of early claim and five-twelfths of 1% for each month (5% per year) beyond 36 months.

The permanent increase in monthly benefits that applies to those who claim after the FRA is called the delayed retirement credit (DRC). For people born in 1943 and later, that credit is 8% for each year of delayed claim after the FRA up to age 70.²⁰

For people with an FRA of 66, therefore, monthly benefits are 75% of the PIA for those who claim benefits at the age of 62 and 132% of the PIA for people who wait until the age of 70 to claim (see Table B-2). Because people who claim earlier receive more payments over a lifetime, all else equal, the overall effect of claiming at different ages depends on how long the beneficiary lives.

Workers with a higher FRA may receive relatively lower benefits for two reasons. First, monthly benefits will be different for individuals who have identical work histories and the same age of claiming benefits but different FRAs. For example, someone with an FRA of 66 who claims at age 62 will receive a monthly benefit equal to 75% of the PIA. For someone with an FRA of 67, claiming at 62 will result in a monthly benefit that is 70% of the PIA. Depending on the claiming age, the scheduled increase in the FRA from 66 to 67 will reduce monthly benefits for workers with similar earnings by between 6.1% and 7.7%. Second, lifetime benefits will be different for workers who have identical work histories and identical age of death but different FRAs. For example, consider two workers who have FRAs of 65 and 67, respectively, both of whom claim at their FRA and thus receive identical monthly benefits. If both workers die at age 75, the worker with an FRA of 65 will have received monthly benefits for 10 years, compared with the worker with an FRA of 67, who will have received monthly benefits for eight years.

Cost-of-Living Adjustments

A COLA is applied to the benefit beginning in the second year of eligibility, which for retired workers is age 63. The COLA applies even if a worker has not yet begun to receive benefits. The COLA usually equals the growth in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) from the third quarter of one calendar year to the third quarter of the next calendar year. The COLA becomes effective in December of the current year and is payable in January of the following year.²¹ Beneficiaries will receive a COLA of 8.7% for benefits paid in January 2023.²²

Benefit Amounts for Hypothetical Workers Born in 1953

As discussed, the PIA is not the benefit amount a worker receives. Adjustments to the PIA for early or late claiming (relative to a worker's FRA) interact with COLAs to produce the actual benefit amount. These two factors affect all claimants, while other adjustments may affect only some claimants (see "Other Adjustments to Benefits"). Table 4 shows how claiming age—and the associated actuarial reduction or DRC—works with COLAs to produce benefit amounts before other adjustments. Specifically, Table 4 shows first how the PIA is adjusted for the claimant's age. For instance, a worker born in 1953 (FRA of 66) claiming at age 62 (48 months before FRA) would receive 75% of his or her PIA. This reduction represents five-ninths of 1% reduction for 36 months and five-twelfths of 1% reduction for 12 months. Table 4 also shows how COLAs begin to affect benefit amounts beginning at age 63. For instance, a worker born in 1953 claiming at age 66 (i.e., FRA) would receive 100% of his or her PIA plus COLAs for 2017, 2018, and 2019. (There was no COLA payable for 2016; see Table B-1.) Additionally, since the COLAs represent a percentage change in benefit amounts that increase the base benefit, benefits demonstrate cumulative growth with each COLA increase. Lastly, workers claiming benefits after FRA receive DRCs. For instance, a worker born in 1953 claiming at age 70 would receive 132% of his or her PIA plus all of the payable COLAs from 2016 through 2023.

Adjustments for early or late claiming and COLAs can have significant effects on a worker's benefit amount. For instance, a medium earner born in 1953 and claiming benefits at age 62, the earliest eligibility age, would receive initial monthly benefits of $1,253.00. Those benefits would increase by annual COLAs: monthly benefits of $1,253 at age 62 would grow to $1,561 at age 70. (This amount reflects 24.60% in cumulative COLAs.²³) In comparison, a medium earner born in 1953 claiming benefits at age 70, thereby taking advantage of all possible DRCs, would receive initial monthly benefits of $2,749. (This amount reflects a 32% increase from DRCs and a 24.60% increase from the compounding of COLAs.)

Features of the Benefit Formula

In the AIME computation, earnings are indexed to the AWI, and the bend points in the benefit formula are also indexed to growth in the AWI. As a result, replacement rates—the portion of earnings that benefits replace—remain generally stable. That is, from year to year, the average benefits that new beneficiaries receive increase at approximately the same rate as average earnings in the economy.

As demonstrated in Table 2, the benefit formula is generally considered to be progressive. In this context, progressive means that a higher share of earnings is replaced for career low earners than for career higher earners. However, although low lifetime earners have a higher replacement rate, they do not receive higher benefits compared to relatively higher lifetime earners. This feature is often referred to as individual equity. That is, higher lifetime earners receive higher benefits.

Additionally, as shown in Table 4, a worker who claimed benefits early—before reaching FRA—would receive lower monthly benefits than if he or she claimed at FRA. Furthermore, a worker who claimed benefits late—after reaching FRA—would receive higher monthly benefits than if he or she claimed at FRA. This feature is known as actuarial equivalence, because the intent is to provide the same amount of lifetime benefits regardless of when a worker claims benefits.²⁴

Lastly, all things being equal, the more years a worker is able to work, the higher dollar amount he or she may receive in benefits. Said differently, years of zero earnings will generally result in lower lifetime earnings in the Social Security benefit computation. Consider the hypothetical earners born in 1953 who are assumed to have worked continuously from age 21 through 61, inclusive (i.e., 41 years of covered employment). If each scaled earner's highest year of earnings was replaced with a zero (representing a year out of the workforce, for example, for education, caregiving or any other reason), his or her highest 35 years of wage-indexed earnings, the amount used to compute AIME, and PIA would all decrease. (See Scenario B in Table 5). Scenario A reproduces information for hypothetical earners from previous sections.) The replacement rate—measured as percent of AIME replaced by PIA—increases for some earners. In Scenario B, the highest year of earnings (occurring in the hypothetical worker's late 40s) was replaced by a year of lower earnings. Because the hypothetical workers are assumed to have worked continuously, this has the effect of essentially taking the second- through 36^th-highest years of earnings from Table A-3.

Scenario C demonstrates how a worker can benefit from more work. That is, since the highest 35 years of earnings are used in the benefit formula, the hypothetical earners still had 35 years of earnings. However, if a worker does not have 35 years of earnings, the benefit formula will impute years of zero earnings. Consider the same hypothetical earners born in 1953 but with a longer break in employment (for example, representing years out of the workforce for education, caregiving, or unemployment) of seven years. In this example, Scenario C, the hypothetical workers would not have years of extra earnings beyond 35, and one year of zero earnings would be used in their benefit calculations. Table 5 shows how their highest 35 years of wage-indexed earnings, AIME, and PIA would decrease. As in the previous example, as a result of a decrease in cumulative lifetime earnings, some replacement rates increase. This has the effect of essentially taking the eighth- through 41^st-highest years of earnings from Table A-3. Since the hypothetical earners had 41 years (from age 21 through age 61, inclusive) of earnings, the highest 35 years of earnings would now include one year of zero earnings.

Auxiliary Benefits

Although the majority of Social Security benefits are paid to retired or disabled workers, many family members of workers are eligible to receive auxiliary benefits based on the workers' earnings. In September 2022, 9.8 million family members of retired, disabled, or deceased workers received Social Security auxiliary benefits (about 14.9% of the beneficiary population).²⁵ Social Security auxiliary benefits are payable to the spouse, divorced spouse, or dependent child of a retired or disabled worker and to the widow(er), divorced widow(er), dependent child, or parent of a deceased worker.²⁶ When dependent beneficiaries also earned worker benefits, they receive the larger of the worker or the auxiliary benefit.²⁷

Benefits payable to family members are equal to a specified percentage of the worker's PIA, subject to a maximum family benefit. A spouse's base benefit (that is, before any adjustments) equals 50% of the worker's PIA. A widow(er)'s base benefit is 100% of the worker's PIA. The base benefit for children of a retired or disabled worker is 50% of the worker's PIA, and the base benefit for children of deceased workers is 75% of the worker's PIA. Benefits payable to family members may be subject to adjustments based on the family member's age at entitlement, receipt of a Social Security benefit based on his or her own work record, and other factors.²⁸

Table C-1 provides a summary of Social Security benefits payable to the family members of a retired, disabled, or deceased worker. It includes the basic eligibility requirements and basic benefit amounts before any applicable adjustments (such as for the maximum family benefit).

Maximum Family Benefits

The total amount of Social Security benefits payable to a family based on a retired, disabled, or deceased worker's record is capped by the maximum family benefit. The family maximum cannot be exceeded regardless of the number of beneficiaries entitled to benefits on the worker's record.²⁹ If the sum of all benefits payable on the worker's record exceeds the family maximum, the benefit payable to each dependent or survivor is reduced in equal proportion to bring the total amount of benefits payable to the family within the limit. In the case of a retired or deceased worker, the maximum family benefit is determined by a formula and varies from 150% to 188% of the worker's PIA. For the family of a worker who attains the age of 62 in 2023 or dies in 2023 before attaining the age of 62, the total amount of benefits payable to the family is limited to

• 150% of the first $1,425 of the worker's PIA, plus
• 272% of the worker's PIA over $1,425 and through $2,056, plus
• 134% of the worker's PIA over $2,056 and through $2,682, plus
• 175% of the worker's PIA over $2,682.³⁰

The dollar amounts in the maximum family benefit formula ($1,425, $2,056, and $2,682 in 2023) are indexed to the AWI, just as the bend points in the regular benefit formula. In the case of a disabled worker, the maximum family benefit is equal to 85% of the worker's AIME. However, the family maximum cannot be less than 100% or more than 150% of the worker's PIA.³¹

Other Adjustments to Benefits

Other benefit adjustments apply in certain situations, including

• the windfall elimination provision, which reduces benefits for worker beneficiaries who have pensions from employment that was not subject to Social Security payroll taxes;³²
• the government pension offset, which reduces Social Security spousal benefits paid to people who have pensions from employment that was not subject to Social Security payroll taxes;³³ and
• the retirement earnings test, which results in a temporary withholding of monthly Social Security benefits paid to beneficiaries who are younger than FRA and have earnings above a certain level.³⁴

Appendix A. Hypothetical Workers, Wages, and Indexed Wages

SSA's Office of the Chief Actuary (OCACT) uses hypothetical earnings patterns to evaluate the program under current law and to illustrate how program changes may affect beneficiaries.³⁵ OCACT publishes scaled factors for very low, low, medium, and high earners as a percent of AWI. Hypothetical workers are assumed to have long and consistent earnings at their respective levels. At these levels, hypothetical workers have earnings from ages 21 to 64, with peak earnings in their late 40s. For instance, a hypothetical medium earner's work history would begin at age 21 with relatively medium wages and gradually increase until age 50, remaining relatively medium, and then begin to decrease until age 64. The scaled factors (i.e., percent of AWI) for different hypothetical earnings groups are shown in Figure A-1.

Figure A-1. Scaled Factors by Hypothetical Earnings Level and Age Percent of Average Wage Index (AWI)

Source: OCACT, Scaled Factors for Hypothetical Earnings Examples Under the 2022 Trustees Report Assumptions, June 2022, Table 6, https://www.ssa.gov/OACT/NOTES/ran3/an2022-3.pdf. Notes: There is no scaled factor for a maximum earner.

Table A-1 shows how actual workers are distributed relative to the hypothetical scaled workers. As an example, Table A-1 shows that a hypothetical medium-scaled worker retiring at age 62 in 2021 had career average earnings of $55,381 (in 2020 dollars). For actual workers retiring in years 2016-2021, 56.1% had an AIME less than the hypothetical medium earner with $55,381 in career-average earnings. During the same 2016-2021 period, 70.2% of female workers had an AIME less than this hypothetical medium earner, whereas 42.3% of males had an AIME less than the hypothetical medium earner. Table A-1 also shows the percent of workers with AIMEs closest to hypothetical scaled workers. For instance, 30.3% of workers retiring in 2016-2021 have AIMEs closest to that of a hypothetical medium-scaled worker.

Figure A-1 showed the scaled factors for each hypothetical earning level. Table A-1 showed who in the actual workforce is similar and closest to the hypothetical earnings groups. To determine what hypothetical workers earned, the scaled factor for each age is multiplied by a year's AWI. This analysis selected the 1953 birth cohort, the youngest birth cohort for which all information on wage-indexed and price-indexed parameters are known. The hypothetical worker for this birth cohort began work at age 21 in 1974 and reached peak earnings sometime in the late 1990s or early 2000s. These workers reached early eligibility age (i.e., 62) in 2015, full retirement age (i.e., 66) in 2019, and age 70 in 2023. The hypothetical earnings for each earnings level are shown in Table A-2. Also, wages for a maximum earner—a worker who earned at or above the contributions base in each year—is shown.

As discussed, the first step in determining benefit amounts is to index a worker's nominal earnings to SSA's AWI (see Table B-1). Earnings up to age 60 are wage-indexed, and earnings after age 60 are kept in nominal terms. The wage-indexed earnings for scaled hypothetical workers born in 1953 are shown in Table A-3.

Appendix B. Social Security Program Information

Appendix C. Auxiliary Benefits