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EXPENSES WILL REDUCE VALUE OF INDIVIDUAL ACCOUNTS

The Social Security debate is heating up again. Some costs associated with the Bush administration proposal to set up individual accounts have not been considered. They should be.

Under Social Security, not all the taxes paid by workers and their employers are returned as benefits. A worker who dies without any eligible dependents forfeits the taxes paid into the system. However, President Bush's individual accounts will allow naming a beneficiary for the account balance. That will eliminate this mortality gain that currently helps fund the present insurance-based system.

How much does mortality save? The annual cost to fund $500,000 over 35 years at 5 percent interest is about $5,500 a year. But with a mortality assumption, that is, when premature deaths are statistically anticipated, the cost drops by nearly 10 percent -- a very large number when applied to Social Security.

Not all of this saving applies, because Social Security pays an array of death benefits to eligible surviving family members. However, the Social Security Administration should estimate the value of forfeitures that do occur, so that we can better evaluate this cost of the switch to individual accounts. Unofficially, I am told by SSA actuaries that they have not performed this calculation, but they agree that it is very significant. I think it may cause individual accounts to be untenable.

Another cost is record keeping. Under the current system, only the record of worker's annual wages is needed to calculate the benefit. But with individual investment accounts, an ongoing record of each person's contributions, investment earnings and securities transactions will need to be maintained with precise accuracy. Anyone involved in the administration of 401(k) plans knows this can be a daunting and expensive task. The expenses are usually shared by both the employer and employee.

Under the Bush proposal, all expenses will have to be charged to the retirement account. It is a cost that could significantly erode future account values. A $5,500 contribution over 35 years accumulates a third less if it earns, say, 3 percent (due to expenses) instead of 5 percent. Under the present system, administration expenses have no effect on an individual's benefits.

There is, of course, no record-keeping system in place or even contemplated that can handle the number of accounts that will be created by the Bush plan. The cost of creating same will be huge. Nor can we expect Wall Street to jump in. For many years new accounts will be too small to be attractive -- sufficient fees will be difficult to charge.

The Bush approach imposes these new, as yet uncalculated costs, plus transition costs estimated to be $2 trillion to $3 trillion. The cost of doing nothing while the baby boomer generation receives its Social Security benefits is estimated at $10 trillion to $13 trillion. It may well be the least expensive alternative.

Andrew R. Graham is a certified employee benefit specialist, with more than 30 years' experience in retirement plan design and administration.