Why the Social Security COLA Adjustment Doesn't Work

In October of 2016, the Social Security Administration released the annual cost of living adjustment (COLA) update for Social Security benefits for  the upcoming year. The average monthly increase in 2017 for retirees is about $5; $6 a month for couples .

The SSA determines the annual adjustment based on the increase in inflation over the past two years, as measured by the average Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). Specifically, between the third quarter of 2014 and the third quarter of 2016. This year, that amounts to a bump of only 0.3 percent in the monthly payout for senior and disabled beneficiaries.

There’s a pretty big problem with using the CPI-W to calculate this annual adjustment: retirees and disabled recipients as a general rule are not working. As such, their household budget is not spent on the same types of goods – at least not in the same percentages. For example, this demographic tends to spend significantly more money on healthcare and assisted living expenses; much less on food and transportation.

Interestingly, the CPI-W is actually a subset of the Consumer Price Index for All Urban Consumers (CPI-U), which represents the spending habits of about 87 percent of the population. The CPI-W represents the spending habits of only 32 percent of the population and, as we’ve already established, does not represent the segment of the population that no is longer working.

For seniors, the Bureau of Labor came up with a separate index called the Consumer Price Index for the Elderly (CPI-E). This is an experimental inflation index that measures costs experienced by people age 62 and older, and is therefore weighted differently to reflect the spending habits of older Americans. If Social Security were to use the CPI-E to determine the COLA adjustment for next year instead of the current CPI-W index, retirees would receive a 2.1 percent increase in benefits instead of the current 0.3 percent

One category in which seniors tend to spend more money than the average worker is for medical care. Since 2007, the average annual medical cost trend has ranged from a high of 11.9 percent to 2016’s 6.5 percent. This is significantly higher than the overall inflation rate, which has hovered in ranges of less than 2 percent during most of that same time period.

Social Security recipients also tend to spend more money on housing. As they age into later years, many move into an assisted living community, nursing home or hire in-home care to help them age in place. According to the Genworth 2016 Cost of Care Study, the nationwide median monthly cost for homemaker services (such as cooking, cleaning and running errands) is $3,813. That’s a 2.56 percent increase over 2015. The median monthly cost for an in-home health aide (such as bathing, dressing and feeding) is $3,861; up 1.25 percent from the year before. The cost of a semi-private room in a nursing home rose by 2.27 percent between the two years.

Clearly these costs demonstrate a significantly higher rate of inflation than the overall inflation rates of 2015 (0.7 percent) and 2016 (1.6 percent).

The following are additional updates scheduled to impact Social Security beneficiaries starting January 1, 2017.

• Social Security recipients who are not yet at full retirement age will be subject to reduced benefits if work earnings exceed $16,920 a year or $1,410 a month. That’s up from $15,720/$1,310 in 2016.
• For a Social Security recipient who reaches full retirement age in 2017,  reduced benefits begin when earnings exceed $44,880 per year or $3,740 per month (up from $41,880/$3,490), but the reduction will apply only until his or her birthday.
• Once a Social Security beneficiary reaches full retirement age, work earnings no longer impact benefits.
• The maximum Social Security benefit for a worker retiring at full retirement age in 2017 is $2,687 a month, up from $2,639 a month last year.

These articles are intended to provide general resources for the tax and accounting needs of small businesses and individuals. Service2Client LLC is the author, but is not engaged in rendering specific legal, accounting, financial or professional advice. Service2Client LLC makes no representation that the recommendations of Service2Client LLC will achieve any result. The NSAD has not reviewed any of the Service2Client LLC content. Readers are encouraged to contact their CPA regarding the topics in these articles.

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