How Is Social Security COLA Calculated?

Kiplinger’s recent article entitled “What Is the Social Security COLA?” explains that for 2021, Social Security benefits increased by 1.3%— the smallest cost-of-living adjustment (COLA) since 2017.

However, seniors were anticipating no increase at all this year.

The estimated average monthly Social Security benefit payable in January 2021 increased from $1,523 in 2020 to $1,543. Yes, that is an entire $20!

The average monthly benefit for a couple when both are receiving benefits rose a whopping $33, from $2,563 to $2,596. The maximum Social Security benefit for a worker retiring at full retirement age (FRA) increased from $3,011 per month to $3,148, an additional $137.

It is important to know that more of workers’ income is subject to the Social Security tax in 2021. The Social Security tax will apply to the first $142,800 of earnings. That is up $5,100 from $137,700 in 2020.

COLAs are calculated using the Consumer Price Index (CPI) for Urban Wage Earners and Clerical Workers (similar to, but not exactly the same as, the urban dwellers’ consumer price index used in inflation reporting).

If prices do not increase or even fall, the COLA will be zero. That occurred in 2010 and 2011 because our economy struggled to recover from the Great Recession. This also happened in 2016, when nose-diving oil prices eliminated the opportunity for any COLA for that year.

Looking ahead at 2022, seniors could see a significant increase in their benefits. In May, the Kiplinger Letter forecast that the annual COLA for Social Security benefits for 2022 would be 4.5%—the largest increase since 2009, when benefits rose 5.8%.

A COLA adjustment is impacted by changes in the wage earners’ consumer price index. National average prices are used, and the Social Security Administration also calculates the percent change between average prices in the third quarter of the current year with the third quarter of the previous year.

The reason the fourth quarter is not used is because that number typically is not available from the U.S. Bureau of Labor Statistics until mid-January, and the Social Security Administration must make its adjustment on January 1st.

Reference: Kiplinger (June 28, 2021) “What Is the Social Security COLA?”