Social Security payments are a fixed amount, determined based on your career earnings. But the amount you receive from Social Security can still increase from year to year thanks to cost-of-living adjustments.
Every year, the Social Security Administration announces whether or not there will be a COLA for the following year, and if so, by what percentage the payments will increase. Here’s an explanation of what the cost-of-living adjustment is, why it’s important and what you can expect your payments to be through 2034.
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Social Security Payments
Social Security payments are designed to assist retirees with their living expenses. In some cases, Social Security makes up the bulk of a retiree’s income. Imagine if the value of those payments decreased every year instead of increasing. All other things being equal, this is what would happen as purchasing power decreased due to the effects of inflation. To counteract this, Congress passed cost-of-living legislation in 1972, and automatic COLAs began in 1975.
How the Cost-of-Living Adjustment Works
The cost-of-living adjustment is determined every year by a formula defined in the Social Security Act. The COLAs are keyed to inflationary movements as represented by the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W), which is calculated every month by the Bureau of Labor Statistics.
How the Cost-of-Living Adjustment Is Calculated
To determine the amount of a COLA, the average CPI-W from the third quarter of the previous year is compared with the same index from the third quarter of the current year. If there is an increase, the COLA becomes effective beginning Jan. 1st of the following year. But in a quirk of the system, all January Social Security payouts are made in December of the prior year, as Jan. 1st, the regular payment date, is always a federal holiday.
For a recent example, the average CPI-W was 268.421 in the third quarter of 2021. The average CPI-W increased to 291.091 in the third quarter of 2022. This represents an 8.7 percent increase, so the 2022 COLA was also 8.7 percent.
Why Cost-of-Living Adjustments Are Critical to You
Cost-of-living adjustments are critical to ensure that recipients do not see their benefits diluted due to the effects of inflation. Even in modest inflationary environments, the purchasing power of money can be significantly impaired.
An example can put this principle into sharper focus. From January 1997 to January 2017, the yearly rate of inflation in the U.S. averaged just over 2 percent – so a haul of groceries costing $100 would cost $102.1 the following year. That seems like a minor change, certainly nothing like what we’ve experienced over the last few years. However, over a 10-year period, even a low inflation rate can tremendously increase the cost of living.
Using real-world figures from the Bureau of Labor Statistics, we see that what took $1,000 to buy in January 2007 cost $1,199.70 in 2017, an increase just shy of 20 percent. Without any COLAs, you would have effectively faced a 20 percent cut in your Social Security income.
History of Cost-of-Living Adjustments
The average cost-of-living adjustment for the past 20 years was 2.57 percent, but this number can fluctuate dramatically year over year. For 2009, 2010, and 2015 there was no cost-of-living adjustment at all. Contrast this with the high-inflation period between 1975 and 1982, when the annual cost-of-living adjustment was as high as 14.3 percent.
Why Cost-of-Living Adjustments Matter for Social Security
The truth is, no one knows exactly where inflation is headed, which is why the cost-of-living adjustment is so important. What the history of cost-of-living adjustments proves more than anything is that whatever inflation does, your Social Security will be adjusted to help protect your purchasing power.
Projected Social Security Payments From 2019 to 2034
The average benefit check was $1,696.35 for March of 2023. Future payments will be based on COLAs as determined by the Social Security formula. We know that over the last 20 years, the average COLA was 2.57 percent. Using that as a baseline average rate, here’s a table showing the estimated average Social Security payments for every year from 2023 to 2034. After 2034, the future of Social Security is currently uncertain.
|Year||Projected Avg. Payment Amount|
Two Components of the Social Security Trust Fund
What is commonly referred to as the Social Security trust fund is actually two funds: the Old Age and Survivors Insurance Trust Fund and the Disability Insurance Trust Fund. By law, these two funds are technically separate entities. The OASI fund is responsible for retirement and survivors benefits and the DI fund pays disability benefits. But the two funds are typically combined for purposes of discussion, particularly regarding the solvency of Social Security.
Future of Social Security Payments After 2034
Currently, Social Security payments cannot be accurately projected after 2034 due to the financial state of the Social Security trust funds. In 2021, the annual cost of Social Security began to be higher than the program’s net income – put simply, the revenue raised by Social Security taxes fell short of the total costs of paying out benefits. The shortfall has to be met by withdrawing from the trust funds. Last year the reserve declined by $22 billion, to a total of $2.83 trillion. Currently fund trustees expect that surplus to be completely depleted by 2034 – unless Congress takes actions to address it.
What’s Next for Social Security
So, what happens if the Social Security surplus is depleted? Some commentators have suggested that these figures mean Social Security will be bankrupt in 2034, but that’s a bit misleading.
Although it’s true that the Social Security reserve fund will be depleted, the Social Security program will still be bringing in tax revenues from workers and employers every year. These revenues will cover 80 percent of scheduled benefit payouts according to current projections. So although this means Social Security won’t really go bankrupt in the sense of stopping payments completely in 2034, there could very well be benefit reductions if Congress fails to act.
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James Holbach contributed to the reporting of this article.