Social Security Cost of Living Adjustments

Social Security Cost of Living Adjustments
Eileen St. Pierre, The Everyday Financial Planner

First the good news – the recent government shutdown did not affect Social Security benefit payments. The bad news is that the cost of living adjustment (COLA) for next year is only going to be around 1.5%. This year’s average monthly payment is $1,162. So a 1.5% raise would only amount to $17.43 more a month (or to make you feel even worse, about 58 cents a day).

Regardless of which side of the political spectrum you find yourself on, there is no argument that Social Security will eventually run out of money without significant changes to the system. When this will happen keeps changing. But there are really only five ways (or combination thereof) to improve the solvency of the system:

  • Increase payments into the system – the result is higher payroll taxes
  • Raise the age at which you can start receiving benefits
  • Allow contributions to be invested at higher rates of return
  • Reduce benefit payments
  • Slow the growth of payments by adjusting the annual COLA

Let’s focus on the last point. Automatic Social Security COLAs started in 1975. The index used to calculate the adjustment is the CPI-W for urban wage earners and clerical workers. These workers make up about a third of the population. This is the index used to determine COLAs for many labor contracts.

Many people argue that this index does not adequately reflect the true costs seniors face because it does not include medical costs. There is a new experimental index for the elderly called the CPI-E. This index takes into account the higher medical expenses incurred by Social Security recipients.

  • Using this index would result in a COLA that is .2% points higher than the current one.
  • So if this index was used next year, seniors would get a 1.7% raise in their Social Security payments, or an extra $19.75 a month.
  • Switching to this index for COLAs and not making any other changes to the system will cause Social Security to run out of money even earlier.

The Social Security Administration issued a Trustees Report in 2012 showing how different adjustments in the COLA would improve the solvency of the system:

  • Reducing the annual COLA by 0.5% points
  • Use a “chained” version of the CPI-W that would reduce the COLA by 0.3% points
  • Reducing the annual COLA by 1% point, but not less than zero

The report also looked at increasing the COLA by 1% point for beneficiaries who live past a specified age. This would not improve the solvency of the system.

Given the long-term issues with the Social Security program, do not expect Social Security benefit payments to keep up with the cost of living. The system was designed as a safety net to keep the elderly out of poverty. Some may argue that this net has holes in it. The bottom line is this – do not rely on Social Security to fund your retirement.

Visit my Retirement Planning and Financial Planning for Later in Life pages for help in getting your long-term finances in order.