The purpose of this actuarial note is to present, explain, and clarify the various measures of unfunded obligation and transition cost used in the context of the OASDI program.¹ Section 5 contains definitions of the various concepts, as used by the Office of the Chief Actuary (OCACT), which appear throughout this note. Table 1 contains estimates of the open group unfunded obligation measured over two different time periods, the next 75-year period and the infinite horizon. Table 2 shows the unfunded obligation for all participants through the infinite future, decomposed into two additive components: (1) the unfunded obligation for past and current participants and (2) the net shortfall for future participants. Table 3 includes estimates for the closed group transition cost and the maximum transition cost. All available estimates for these measures provided in Tables 1 through 3 are based on the intermediate assumptions of Trustees Reports through 2013.

The estimates of unfunded obligations presented in Tables 1 through 3 are given in present value dollars and as percentages of taxable payroll and GDP. The estimates expressed as percentages provide a useful basis for comparing the levels of unfunded obligation from one valuation period to the next. In the absence of any substantial changes (in assumptions, methods, or experience) these percentages tend to be stable except to the extent that additional years are added to the valuation period. However, estimates expressed in dollars tend to increase by about the annual interest rate for each year the valuation period is moved forward.

Estimates of the open group unfunded obligation for the 75-year projection period are given in Table 1 for annual valuation dates starting with January 1, 1979. The specific year of the Trustees Report, which identifies the intermediate assumptions used in determining the estimates, is the same as the year of the valuation date. Significant uncertainty surrounds the estimates for a period as long as 75 years. A discussion of this uncertainty for the most recent valuation date (January 1, 2013) is located in appendix E of the 2013 Trustees Report.²

Solvency for the OASDI program at any point in time means that the program is able to pay scheduled benefits in full, on a timely basis at that time. This is indicated by a positive trust fund balance at that time. However, it is important to realize that the open group unfunded obligation for a period, as a single summarized measure, indicates the financial status of the program for that period taken as a whole and whether the program will be financially solvent at the end of that period. If the unfunded open group obligation over the period is zero or negative, this would not necessarily indicate solvency throughout the period.

Table 2 separates the unfunded open group obligation over the infinite future into two components from a generational perspective. The table shows this decomposition for valuation dates January 1, 2003 through January 1, 2013, the valuation dates for which the unfunded obligation over the infinite future have been estimated. These components are important for evaluating the financial status of a program that is designed to be “fully-advance-funded”. The first of these two components, the “closed group transition cost”, is the net present value of the transition cost that would be incurred if participation in the program were closed off to individuals who have not attained age 15 in the first year of the projection period.³ The second component is the net present value of the cost of providing scheduled benefits for future participants in the program (those who have not attained age 15 in the first year of the projection period or those not yet born on the valuation date) for the infinite future less the scheduled taxes they would be expected to pay. If this net shortfall for future participants is zero or negative, then scheduled taxes for future generations are expected to be sufficient to finance their benefits on a fully-advance-funded basis.

The “maximum transition cost” represents the transition cost for continuing the Social Security program in a different form, with all payroll taxes for work after the valuation date credited to the new benefit form. The maximum transition cost is equivalent to the unfunded accrued obligation of a plan designed to be fully- advance-funded at the time of plan termination and would be an appropriate calculation to evaluate the actuarial status of an ERISA plan. However, this concept may be applied when a continuing plan, which has been financed on a pay-as-you-go basis, is being converted abruptly to a new form that will apply not only for future participants but also with respect to all future taxes or premiums of current participants. Table 3 shows the closed group transition cost and maximum transition costs for valuation dates through January 1, 2013.

Accrued benefit obligations—Future benefit obligations based on past earnings as of the valuation date. Thus, these accrued benefit obligations are relevant only to current participants as of the valuation date. The accrued benefit obligations are based on the primary insurance amount (PIA), the early retirement or delayed retirement factors, and other rules of payment. The accrued benefit obligations include:

Closed group transition cost—Computed like the open group unfunded obligation for a 100-year projection period with the exception that future participants are not included. Specifically, the future cost and future scheduled tax income for only current participants are included in the calculations along with the trust fund assets at the start of the period. The period is extended to 100 years past the valuation date in order to capture the lifetime of all the current participants included in the valuation.

Current participants—All individuals (generations) who are age 15 and older as of the valuation year. This includes all individuals who have been, are, or will be workers and/or beneficiaries. (As noted in Table 3, the age 15 varies for valuation dates before 1984.)

Future cost—The value of OASDI program benefits scheduled in current law and the cost of administering the program.

Future participants—Future workers and beneficiaries, who are under age 15 or not yet born, as of the valuation year. (As noted in Table 3, the age 15 varies for valuation periods before 1984.)

Future scheduled tax income—This income is mainly OASDI tax revenue (payroll tax contributions and income from taxation of scheduled benefits). This income may also include reimbursements from the General Fund of the Treasury scheduled in current law.

Maximum transition cost—The cost of meeting the accrued benefit obligations of the old form while continuing the Social Security program in a completely different form, with all payroll taxes for work after the valuation date credited to the new benefit form. The maximum transition cost is determined as of the valuation date for current and past participants only. It is computed as the difference between

Open group unfunded obligation—Determined as of the valuation date over a specified time period (such as over the long-range 75-year period), computed as the difference between:

Past participants—Those who contributed money to the program or received benefits from the program and are no longer alive as of the valuation date.

Sustainable solvency—Indicates that the combined OASDI Trust Funds are expected to be able to pay all scheduled benefits on time over the 75-year projection period and to continue paying all benefits on time for the foreseeable future. Thus, the following two conditions are required to be met:

Valuation date—Beginning of the projection period or January 1 of the starting projection year. This date defines the point in time for determining present values.

Valuation year—First year of the projection period. This year is used to determine current and future participants.