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The Social Security Administration (SSA) announced on Oct. 13 that its annual cost-of-living adjustment (COLA) will be 1.3 percent, an average boost to retirement benefits of about $20 per month for individuals starting in January.
The modest gain for monthly benefits is the latest in a decade of meager COLA increases. Social Security COLAs have averaged a 1.65 percent increase annually the past decade, with no increase at all to benefits in 2016. The increase that went into effect in January 2020 was 1.6 percent.
“Today’s announcement of a 1.3 percent COLA increase — while modest — is needed to help Social Security beneficiaries and their families try to keep up with rising costs,” says AARP Chief Executive Officer Jo Ann Jenkins. "The guaranteed benefits provided by Social Security and the COLA increase are more crucial than ever as millions of Americans continue to face the one-two punch of the coronavirus’s health and economic consequences. In fact, thanks to recently enacted changes supported by AARP to lower the Medicare premium for next year, more seniors will at least see a small monthly COLA."
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Why so low?
COLAs have been low because inflation has been tame. The annual COLA is based on the change in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) from the third quarter of the previous year to the third quarter of the current year. The CPI-W represents the prices paid by workers for a basket of goods and services. It is not based on a market basket that reflects what retirees purchase — the CPI-E — which represents a market basket that better reflects retiree spending, such as higher costs for health care.
This year's COLA calculation looks at the average CPI-W index numbers for July, August and September of 2019 and compares them with the numbers for the same three-month span in 2020. The percentage change between the two quarterly averages is the COLA for the following year starting in January. If there's no change, or if there's a decline in the CPI-W, there's no increase in Social Security benefits.
Since Congress initiated automatic annual COLAs in 1975, there have been three years in which benefits didn't increase at all: 2010, 2011 and 2016. The single biggest increase, 14.3 percent, went into effect in January 1981.
Social Security is funded by a payroll tax of 12.4 percent on eligible wages — employees pay 6.2 percent and employers pay the other 6.2 percent (with self-employed workers paying the entire 12.4 percent). Next year, the maximum amount of earnings subject to the Social Security tax will increase to $142,800 from $137,700. The money paid in by today's workers goes to cover current benefits, with any excess going into the Social Security trust fund.
Because of the growing number of Social Security beneficiaries — and, in part, a decrease in payroll taxes collected because of pandemic-driven job losses — the Social Security system is facing increased stress. In their annual report, Social Security's trustees estimated that the trust fund for retired workers and their survivors will run short of money in 2034. A more pessimistic forecast from the Congressional Budget Office estimated that the reserves in the trust fund for retired workers and their survivors will be depleted in 2031. Even at that point, over three-quarters of benefits could still be paid out from incoming payroll taxes.