Social Security is an increasingly important piece of many seniors' retirement budgets. In an annual Gallup poll, 60% said Social Security is a major source of income, the highest level in over a decade. Another 28% said it's at least a minor source of income in retirement.
With many seniors reliant on Social Security to make ends meet, the annual cost-of-living adjustment (COLA) is of great importance for them. Beneficiaries receive a bump in their monthly checks every year based on the average year-over-year inflation in July, August, and September. We're about a month away from getting the first set of data that will go into calculating retirees' COLA, but analysts are already putting out their best guesses for where it could land.
Following the June Consumer Price Index (CPI) reading, The Senior Citizens League updated its forecast. Despite lower-than-expected inflation last month, the group increased its expectations to a 2.63% COLA, up from 2.57% last month.
Seniors may be disappointed in a forecast well below the 3.2% COLA they've received this year . That's especially true as Social Security becomes an increasingly important part of their budget, while inflation has eaten away at its purchasing power. But The Senior Citizens League's forecast is actually great news for retirees.
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The biggest problem facing seniors reliant on Social Security
The annual cost-of-living adjustment can be something of a double-edged sword for retirees. Since the COLA is based on inflation, it only moves up significantly when inflation increases significantly. And high inflation rates have been extremely detrimental to seniors' retirement budgets.
The average retiree who started receiving benefits in 2000 has seen their cost of living climb much faster than their Social Security checks. The Senior Citizens League estimates benefits have effectively lost 36% of their buying power. High inflation rates in 2021 and 2022 led to big COLAs but also bigger drops in how much seniors could afford with their Social Security income alone.
But not all inflation is bad for seniors. Indeed, a healthy economy experiences a slow and steady increase in money supply , which results in a modest level of inflation. The Federal Reserve , which indirectly controls the money supply, is currently aiming to bring inflation down to 2% while maintaining full employment.
When you look at the recent history of Social Security COLAs and their effect on retirees' buying power, a lower COLA typically benefits seniors. Since 2010, Social Security's buying power has improved the majority of the time when the COLA is less than 3%. Buying power improved a cumulative 13% across years when the COLA was less than 2% during that period.
So, the expectation for a COLA of just 2.63% represents good news for retirees.
Many retirees won't be able to keep their entire COLA
Another problem with high cost-of-living adjustments is that they don't account for taxation on Social Security income. A bigger Social Security check will often result in a bigger tax bill.
The way the government taxes Social Security is based on a metric called combined income. Combined income is equal to half of your Social Security income, plus your adjusted gross income , plus any untaxed interest income. So, all else being equal, an increase in your Social Security income results in an increase in your combined income, and more of your benefits could become taxable as a result.
Here's how much of your Social Security income could be taxable based on your combined income and filing status.
| Taxable Percentage of Benefits | Combined Income (Single Filer) | Combined Income (Joint Filer) |
|---|
| 0% | Less than $25,000 | Less than $32,000 |
| Up to 50% | $25,000 to $34,000 | $32,000 to $44,000 |
| Up to 85% | More than $34,000 | More than $44,000 |
Data source: Social Security Administration.
If those thresholds seem low, that's because they haven't been updated in over 30 years. There's no inflation adjustment built into the system, so every year, more and more retirees see a greater portion of their benefits taxed by the federal government as the COLA increases their combined income. Many states, however, exempt Social Security income from taxation.
A lower COLA means seniors keep more of their benefits.
How big will the 2025 COLA be?
Recent CPI numbers for May and June have come in better than expected. If inflation remains flat through the third quarter, the COLA would be just 2.3%. More likely, we'll see inflation of 0.1% to 0.2% per month, which would result in a COLA between 2.5% and 2.7%, in line with The Senior Citizens League's forecast.
Inflation would have to average close to half a percentage point per month for the next three months to reach the same 3.2% COLA announced last October. That seems highly unlikely without some major disruption.
We're already in mid-July. The 2025 COLA picture is starting to become much clearer. In a few months, the number will be set, and it's very likely going to come in below 3%. While that might be a decrease from the last few years, retirees should be happy with a smaller COLA and shrinking inflation. It means they're more likely to see an increase in the buying power of their Social Security checks next year.
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