Who’s middle class? It depends…

All politicians say they want to protect the middle class, but who belongs to the middle class? The Census Bureau puts the median household income at a shade under $50,000, and a broad definition (leaving out the bottom and top twenty percent) gets you a range of about $20,000 to $100,000, ignoring differences in household size and regional cost of living.

But the definition of “middle class” seems to expand or contract depending on the context. When it comes to shielding taxpayers from tax increases, the “middle class” tends to extend well above the $100,000 threshold. For example, the Alternative Minimum Tax is “patched” by Congress each year in the name of protecting the middle class, even though roughly three-fourths of the forgone revenue comes from households making more than $100,000. Similarly, while campaigning for president, Barack Obama famously pledged not to raise taxes on married couples with incomes under $250,000 or single taxpayers with incomes under $200,000.

But when it comes to Social Security cuts, the middle class seems to shrink. The co-chairs of the president’s Fiscal Commission, for example, proposed cuts for the “most fortunate” that reduced benefits for Social Security’s prototypical medium earner (a worker earning around $43,000 in 2010) by 19 percent. Though some of this would come from across-the-board cuts like a lower cost-of-living adjustment, even targeted (“progressive”) cuts would fall on those earning as little as $38,000.

Why go after middle class retirees? One reason is that there are few wealthy retirees and they don’t receive much in Social Security benefits. Only 7 percent of Social Security beneficiary “units” 62 and older had incomes above $100,000 in 2008 (this includes single retirees and married couples). Even if these upper-income retirees all received close to the maximum benefit of around $35,000, it’s hard to achieve substantial savings without going lower down the income scale or eviscerating benefits for higher-income retirees, who earned them through years of contributions and already rebate some through the income tax system.

While trimming benefits for high-income retirees doesn’t get you very far, a modest payroll tax increase on high-income workers does. Currently, earnings above $106,800 are exempt from Social Security taxes. Taxing all earnings equally would all but eliminate Social Security’s long-run shortfall. Alternatively, removing the cap on the employer side and indexing it to cover 90 percent of earnings on the employee side (as it did in the early 1980s when Social Security was in long-term balance) would close around 70 percent of the shortfall if benefits are based on the employee contribution. This has the advantage of neither raising employee taxes nor creating outsize benefits.

Despite strong public support for lifting or eliminating the payroll tax cap, politicians like Texas Governor Rick Perry insist on keeping alive the idea that the projected Social Security shortfall can and should be closed by “means testing” benefits for high-income retirees. Going after AARP-card-carrying Lexus drivers living in gated communities (as Fiscal Commission co-chair Alan Simpson characterized opponents of benefit cuts) may sound like a good idea until you realize how elastic class categories are. In fact, even those of us who drive old Ford Escorts and live in rental apartments had better watch out.