Social Security Benefits: The Good and Bad News for Retired Workers in 2023

Social Security is a major source of financial well-being in retirement. Nearly 49 million retired workers received benefits in January, and about half of people aged 65 and older get at least 50% of their family income from Social Security. Given its importance, retired workers should try to stay informed on the program, and there have been several big changes already this year.

Here are the most important details.

Image source: Getty Images.

Good news: The largest cost-of-living adjustment since 1982

Inflation scorched the U.S. economy last year, driving up the cost of gasoline, groceries, and other necessities at the fastest pace in four decades. Meanwhile, Medicare Part B premiums soared 14.5% in 2022, marking one of the largest price hikes in history. In total, the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) -- the metric used by the Social Security Administration to measure inflation -- increased 8.5% last year.

That inflationary pressure was particularly problematic for retired workers because Social Security benefits only received a 5.9% cost-of-living adjustment (COLA) in 2022. For context, COLAs are intended to protect the buying power of benefits, and they have done a decent job over time, but the 2022 COLA failed to fully offset the impact of rising prices. In other words, benefits lost buying power last year.

Fortunately, Social Security benefits got a huge 8.7% COLA in 2023, marking the largest raise for retired workers since 1982. Better yet, inflation has slowly decelerated over the last six months, and the CPI-W increased 6.3% in January 2023, well below the 8.7% COLA applied to benefits this year. That means Social Security benefits are on pace to regain some (or more) of the buying power lost in 2022.

Bad news: More retired workers will pay federal income tax on Social Security benefits

Unfortunately, while benefits are adjusted for inflation each year, the income thresholds that dictate the federal taxation of benefits have never been adjusted. That has created a problem. More retired workers owe taxes on Social Security income each year simply because COLAs are driving up benefits.

For context, less than 10% of recipients paid federal income tax on benefits when the law took effect in 1984, but more than half pay tax on benefits today. And that figure will continue to climb this year due to the unusually large COLA in 2023.

The table below details the relevant tax rates for Social Security benefits based on combined income, which is defined as modified adjust gross income plus half of Social Security benefits.

Data source: Social Security Administration.

Individuals who fall into the income thresholds detailed above have two options: They can make estimated tax payments to the Internal Revenue Service each quarter, or they can choose to have federal taxes withheld from benefits by filing a Form W-4V with their local Social Security office.

Bad news: The Social Security trust fund may be depleted sooner than expected

Social Security is facing a $20 trillion funding shortfall over the next 75 years due to cost pressures created by the aging population. Last year, the board of trustees estimated that the Social Security trust fund -- the source of benefits paid to all beneficiaries -- will likely be depleted by 2035. However, a 2023 COLA ranging from 3.9% to 5.1% was baked into that estimate -- the actual COLA came in much higher at 8.7%. That could accelerate the depletion of the Social Security trust fund.

That said, government officials in Washington are aware of the problem, and they have proposed a broad continuum of potential solutions. But even if the trust fund does run dry in 2035, income from payroll taxes would still cover 80% of scheduled benefits. In other words, the Social Security program is not going to disappear.