Your Money Matters By Barry Feigenbaum: Inflation, Social Security, And Your COLA

By Barry Feigenbaum

Last quarter we discussed inflation and the need to develop solutions for near-term and long-term inflation across your retirement. This quarter, let’s drill down further into inflation and look at the Social Security Cost of Living Adjustment (COLA).   

Without an inflation-offset strategy, most retirees rely primarily on Social Security’s annual COLA to partially fund higher costs.  

According to the Social Security Administration:

“The Social Security Act specifies a formula for determining each COLA. According to the formula, COLAs are based on increases in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). CPI-Ws are calculated on a monthly basis by the Bureau of Labor Statistics.

A COLA effective for December of the current year is equal to the percentage increase (if any) in the CPI-W from the average for the third quarter of the current year to the average for the third quarter of the last year in which a COLA became effective. If there is an increase, it must be rounded to the nearest tenth of one percent. If there is no increase, or if the rounded increase is zero, there is no COLA for the year.”

Since Social Security benefits are paid in the month after earned (ex:  December’s benefit is paid in January) a recipient will receive the new COLA increase in the benefit payment paid in January.  

According to the Bureau of Labor Statistics in its publication Beyond The Numbers (February, 2014): 

“The Consumer Price Index (CPI) is a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services. The CPI currently tracks the spending patterns of two population groups: all urban consumers and urban wage earners and clerical workers.”

The measure of all urban consumers is known as CPI-U, and the measure of urban wage earners and clerical workers is known as CPI-W. These data points look at purchases for housing, food, energy, etc., and differences between the indexes reflect different weightings for purchase categories. CPI-U reflects the purchasing pattern of a larger percentage of Americans than does CPI-W.  CPI-W is the index used for the COLA as noted above.

Many argue that the goods and services and their weightings in the CPI-W index do not reflect the purchases of citizens age 62 and older. This cohort spends relatively more on health care and housing than is included in CPI-W.  There is an experimental index called CPI –E (or Consumer Price Index for Americans 62 years of age and older) that reweights the composition of the existing index to reflect the buying habits of older Americans. It is experimental, but some suggest this would be a better index to adjust Social Security COLAs in order to reflect the true buying habits of Americans age 62 and up.  (See https://www.congress.gov/crs-product/IF12675  for further background.)

Regardless, it is unlikely that any individual Social Security recipient’s purchases of goods and services will exactly match any index. Your increased costs will be different (higher or lower) than the index and your COLA increase. This can be thought of as “basis” risk, defined as the difference between a recipient’s increased costs for the goods and services he/she purchases and the index used to compensate the recipient for overall increased costs.

As we noted last quarter, we must include an inflation offset strategy in our retirement plan.

According to the Pew Research Center (May 20, 2025),

“In 2022, Social Security made up at least half of total personal income for 38.3 million people, or 63.2% of adult recipients, according to the SIPP data. For 26.5 million people (43.6% of recipients), it accounted for three-quarters of their income. For 16.4 million (27%), it was their only source of income.” (SIPP stands for the Census Bureau’s Survey of Income and Program Participation)

With such a heavy reliance on Social Security by its recipients and the need for additional income to offset inflation, the COLA and its calculation are of vital importance to older Americans. 

The Social Security COLA for 2027 will be 3.6%. The COLA for 2026 was 2.8%. This relatively large COLA increase for 2027 reflects the level of inflation determined by the calculation described above. Whether it sufficiently offsets expenses of any particular Social Security beneficiary depends upon the basket of goods and services he/she purchases.

This presentation should not be used as a basis for legal, tax, or investment advice.  In any specific case, the parties involved should seek the guidance and advice of their own legal and tax counsel and financial advisor. 

Barry Feigenbaum is a Certified Financial Education Instructor® with more than 40 years of financial services experience who has taught thousands of students in educational, corporate, and not-for-profit settings how to take control of their financial lives.