Social Security benefits are supposed to be protected against inflation. To make sure seniors don't lose buying power, periodic cost of living adjustments (COLAs) occur in years when the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) shows a year-over-year increase.
For a while, it didn't appear that the CPI-W would show any bump in costs this year due to the coronavirus. But now the data is out for the crucial months used to calculate each year's COLA, and seniors on Social Security will get a raise in 2021. But it's not all good news.
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Seniors will receive one of the lowest raises in years
Unfortunately, the COLA adjustment for 2021 will result in seniors receiving only a 1.3% raise. That's the lowest annual increase in benefits since 2017. By comparison, the chart below shows how COLAS have stacked up over the past few years.
Data source: Social Security Administration.
Unfortunately, a COLA of just 1.3% means most seniors will see very little extra money in their monthly checks. In fact, with retirees receiving an average benefit of just $1,519 per month in 2020, the typical senior will get just $19.75 more per month. And checks may not even grow by that much, as Medicare premiums are likely to also go up and take a big chunk of that.
It would be fine for seniors to receive such a small raise if, indeed, it were an accurate measure of how much their costs were rising. Unfortunately, CPI-W doesn't actually do a very good job of tracking how much spending goes up for retirees because urban wage earners and clerical workers tend to have different expenses than Social Security retirees. CPI-W doesn't give as much weight to rising costs of healthcare and housing as it should, and spending in these areas tends to grow much faster than in others. As a result, benefits have been rapidly losing buying power due to COLAs that are too small.
Retirees should prepare for a small raise next year
While lawmakers have introduced legislation to provide a higher COLA for retirees next year, it's unlikely to be signed into law. That means seniors are probably stuck with the 1.3% raise that will do little to improve their finances.
Seniors need to plan for a small COLA by making sure they're maximizing the income they get from outside of Social Security, without withdrawing too much from their retirement accounts and risking running short of cash. Maintaining the appropriate asset allocation and watching investment fees are more important than ever.
Retired Americans struggling to make ends meet may also want to look into whether they're eligible for any other benefits, such as Supplemental Security Income, and should take a close look at budget cuts they can make now since 2021's Social Security raise isn't going to provide much financial relief.
