Social Security: How Are Cost-of-Living Adjustments Calculated?

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One of the advantages Social Security recipients have over most working Americans is that you almost always get a yearly raise in the form of cost-of-living adjustments (COLAs) tied to inflation. Since the first Social Security COLA was implemented in 1975, there have only been three years when inflation was flat and no COLA was added to monthly payments.

Thanks to last year’s soaring inflation rate, the 2023 COLA of 8.7% is the highest in more than four decades, boosting the average monthly retirement benefit by about $146. Because of slowing inflation in recent months — the current rate is around 3% — this year’s high COLA has been effective at battling inflation.

That’s not always the case, however. In 2022, the 5.9% COLA was almost immediately wiped out by an inflation rate that hovered above 7% for much of the year and peaked at over 9%.

If you wonder how the annual COLA is calculated: It’s based on the percentage increase in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) from the third quarter of the previous year, according to the Social Security Administration. The 2024 COLA, for example, will be based on the average CPI-W increase during the 2023 third quarter.

When those Q3 figures come out, the data for July, August and September will be added together and divided by three to get the average. The 2023 number will then be compared with the third quarter average of 2022 to determine the percentage of change for 2024. If there is no change, then there is no cost-of-living adjustment.

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Because of this year’s declining inflation rate, the 2024 COLA could fall below 3%, according to estimates from The Senior Citizens League, a non-partisan seniors advocacy group.

The idea behind the COLA is to ensure that the purchasing power of Social Security benefits is not eroded by rising prices, according to AARP. Benefits go up if there is a measurable increase (at least 0.1%) in the CPI-W price index from year to year.

But as AARP pointed out, even when there’s a cost-of-living increase, you might not see all of it in your Social Security benefit payment. For example, if your Medicare Part B premiums are deducted from your Social Security payment — which is the case with 70% of Part B enrollees — a Medicare rate increase could offset the COLA.

That’s one reason some would like to see the COLA formula changed. As previously reported by GOBankingRates, The Senior Citizens League and other senior advocacy groups have often criticized the current formula because it doesn’t account for increases in the Medicare Part B premium. This often leads to Social Security checks falling short of the actual inflation rate for seniors.

They advocate basing the COLA on a different index — the Consumer Price Index for All Urban Consumers (CPI-U). A 2022 report from the Cato Institute noted that while the CPI-W reflects the purchasing behavior of only about three in 10 Americans, the CPI-U covers eight out of 10 individuals in the United States, providing a more accurate picture of actual inflation.

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