Retirement is a big milestone, and it’s important to prepare yourself financially for that stage of life. Part of that means reading up on Social Security and understanding how the program works.
A key part of Social Security is the fact that benefits are eligible for a cost-of-living adjustment, or COLA, every year. The purpose of those COLAs is to help benefits keep up with inflation.
But there are many things about COLAs seniors on Social Security don’t know, and being unaware of these four facts could make it harder to plan financially for the future.
COLAs are not based on senior-specific expenses
Since COLAs are meant to help Social Security benefits keep up with inflation, you’d think they’d be based on senior-specific expenses. But that’s not the case.
Social Security COLAs are based on the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W), which tracks the spending patterns of working Americans. Advocates have pushed for lawmakers to change the Social Security COLA formula to be based on a senior-specific index, since retirees tend to spend differently than people who work.
Such an index already exists, and it’s known as the Consumer Price Index for the Elderly (CPI-E). But lawmakers have hesitated to adopt this change because the CPI-E is considered experimental by the Bureau of Labor Statistics, among other reasons.
Because COLAs don’t tend to accurately reflect the costs seniors face, Social Security benefits have been losing buying power. The Senior Citizens League, an advocacy group, says that Social Security recipients have lost out on 13.7% of their buying power over the past 10 years.
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COLAs are based on third quarter data
At this point of the year, many Social Security recipients may be on the lookout for estimates of a 2027 COLA. The Seniors Citizens League, for example, recently projected that next year’s Social Security COLA will amount to 3.8%.
But Social Security COLAs are based on third quarter data from the CPI-W. For this reason, estimates that come out during the year are only partially useful.
Those estimates can give Social Security recipients an idea of what to expect in the new year. But COLAs are never set in stone until the Social Security Administration makes an official announcement. That typically happens in October, since September CPI-W data needs to be factored in.
There’s no such thing as a negative COLA
When there’s a rise in the CPI-W during the third quarter of the year compared to the previous year, Social Security benefits are eligible for an increase. When there’s no rise in the CPI-W year over year, benefits remain flat.
But the same thing also happens when the CPI-W decreases from year to year. Social Security benefits can’t decrease from one year to the next, even if prices decline.
COLAs can be wiped out by Medicare Part B increases
People who are enrolled in Social Security and Medicare at the same time have their monthly premiums for Part B, which covers outpatient care, deducted from their benefits automatically. What this means is that if there’s a large increase in the cost of Medicare Part B and only a small COLA, that raise can effectively be wiped out.
For example, let’s say the average monthly Social Security benefit is $2,100 and benefits only get a 1% COLA. That leads to an increase of $21. But if the cost of Medicare Part B also rises $21, seniors could be left with no net raise whatsoever.
It’s also possible for the cost of Medicare Part B to increase enough year over year that it exceeds a given COLA. In the example above, if there was a $22 increase in the cost of Medicare Part B, it would outpace the COLA for the average benefit.
The good news is that seniors cannot see their Social Security benefits reduced from one year to the next because of a Medicare Part B cost increase. Thanks to what’s known as the hold harmless provision, in a situation like that, benefits would stay the same. They wouldn’t decrease.
Bottom line
Without COLAs, Social Security recipients would be pretty much guaranteed to lose buying power over time. So the fact that COLAs exist is a very good thing, despite some flaws in the way they’re calculated.
But understanding how COLAs work could help you eliminate some stress living on Social Security. That means knowing what they can and cannot do.
While Social Security COLAs can help you keep up with inflation, they’re not meant to help you get ahead of inflation. And if you don’t make an effort to save well for retirement or have income outside of your monthly benefits, you may end up struggling to cover your bills. So it’s important not to rely too heavily on COLAs, and to instead find ways to boost your senior income yourself.
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Author Details
Maurie Backman
Most retirees will make their Social Security claiming decision exactly once, which is why Maurie Backman has spent more than 20 years helping them understand it. She covers benefit calculations, COLA forecasts, and the policy changes that quietly reshape what retirees receive each month. Her work has appeared in Kiplinger, The Motley Fool, 24/7 Wall St., Bankrate, and U.S. News & World Report.
