If you're a member of the workforce, you probably expect your wages to rise over time. If they didn't, it would be pretty tough to keep up with your living costs due to inflation.
Similarly, Social Security recipients are eligible for cost-of-living adjustments, or COLAs, so that their benefits are able to keep pace with inflation. Many Social Security recipients end up collecting a monthly benefit for several decades. If those benefits weren't eligible for COLAs, they'd be almost guaranteed to fall behind on bills.
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If you're on Social Security, you probably bank on your annual COLA pretty heavily. And if so, it's important to understand how Social Security COLAs work. Here are a few things you should know about them.
1. They're based on third-quarter inflation data
Social Security COLAs are tied directly to inflation. Specifically, they're based on data from the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W).
But there's a reason the Social Security Administration (SSA) announces COLAs each year in October. Those COLAs are calculated based on third-quarter inflation data, which does not become fully available until October.
Why the third quarter specifically? The logic is that Social Security COLAs are supposed to match inflation as closely as possible. They're also implemented at the start of each year. Using third-quarter data means relying on information that's pretty recent while also giving the SSA ample time to implement COLAs and adjust benefit payments in time for January.
2. They're not guaranteed to raise benefits
It used to be that lawmakers had to vote on an adjustment to Social Security to increase benefits from one year to the next. That rule changed in 1975 when COLAs became automatic.
But just because Social Security benefits are eligible for a COLA each year does not mean they necessarily get one. If there's a year when there's no annual increase in the CPI-W, Social Security benefits do not get a COLA.
And if you think that can't happen, think again. There have been three years in pretty recent history when Social Security recipients got no COLA at all.
3. They can only work in the beneficiaries' favor
When there's no COLA to be had, it can be a huge disappointment for Social Security beneficiaries. Thankfully, though, the worst that can happen in that situation is that Social Security benefits remain flat.
There's no such thing as a negative COLA. So, even if the CPI-W shows a decrease year over year, seniors won't see their monthly Social Security checks shrink.
Know your COLA facts
Because COLAs are such an essential part of Social Security, it's important to understand their ins and outs. If you're someone who relies on those monthly benefits, make a point to read up on how COLAs work.
You may also want to keep tabs on inflation during the year (especially in the third quarter) so you have an inkling of what to expect even before the SSA makes its annual COLA announcement. That way, you can prepare your own finances accordingly.
