Cost-of-Living Adjustment

A cost-of-living adjustment (COLA) is a rise in Social Security and Supplemental Security Income (SSI) that is provided to offset the impacts of inflation, which is the rise in prices across the economy.

The Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) for a certain time period is commonly used to calculate COLAs. The average cost of a selection of commodities is represented by the Consumer Price Index (CPI), which is used to calculate inflation.

Understanding the Cost-of-Living Adjustment (COLA)

Since there was a lot of inflation in the 1970s, COLAs were used to offset it in contracts relating to compensation, real estate, and government benefits. The Social Security Administration (SSA) uses the CPI-W, which is determined by the U.S. Bureau of Labour Statistics (BLS), to calculate COLAs.

Both Supplemental Security Income and Social Security are subject to cost-of-living adjustments. The goal is to boost benefits at a rate that keeps up with inflation. Your yearly Social Security payment would increase to $10,870 if you got $10,000 in 2022 due to the 8.7% COLA increase for 2023.

Importance of Cost-of-Living Adjustment (COLA)

  1. The COLA aims to keep benefits from Social Security and Supplemental Security Income (SSI) from losing buying power due to inflation.
  2. Being able to maintain one's purchasing power makes it crucial.
  3. Also, it supports a pension's continued financial stability.
  4. Furthermore, COLAs can assist individuals in achieving their objectives and financial targets even in an environment of rising pricing.
  5. As a result, for the duration of their retirement, the cost of living adjustment for social security is important.

How COLA is Determined?

The CPI-W and the proportion of COLA agreed to by the employer together make up COLA. CPI comparisons are conducted annually to determine the rate of inflation. Recipients do not get a COLA when consumer prices fall or if inflation has not been high enough to support an increase in the COLA. There won't be a COLA increase if the CPI-W doesn't rise.

As an illustration, let's say the average CPI-W for the third quarter of 2022 is 250 and the base average CPI-W for that same quarter is 200. You can compute the cost of living adjustment for 2022 as 250-200/200*100=25%.

Key Takeaways

  • In order to keep up with inflation, Social Security benefits are increased through a cost-of-living adjustment (COLA).
  • The Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) is used to calculate inflation.
  • In 1975, yearly COLAs became automatic.
  • 8.7% is the COLA in 2023.
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