In the coming weeks, retirees will receive their initial Social Security payments that reflect the cost-of-living adjustment (COLA) for 2025. This adjustment will increase the average benefit to $1,976 monthly. However, this amount is less than what many expected, particularly following three years of substantial COLAs, including an impressive 8.7% increase in 2023.

Critics believe that the upcoming 2.5% increase will not adequately address the higher living costs seniors will confront in 2025, and a peculiar aspect of how Social Security benefits are calculated might be the reason. It is estimated that this will result in an average loss of $120 for retirees next year, with some potentially facing even greater shortfalls.

How COLA is determined by the government

The Social Security Administration (SSA) typically provides COLAs to help Social Security benefits keep pace with inflation. The SSA calculates inflation by examining the changes in the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) averages during the third quarter from one year to the next.

The government evaluates the CPI-W figures for July, August, and September of the current year, sums them up, and divides the result by three to compute the third-quarter average. This average is then contrasted with the average from the same months the previous year, and the difference represents the COLA. For 2025, the average increased by 2.5% compared to 2024, leading to a 2.5% COLA for retirees.

While this method appears logical, it overlooks the spending patterns of non-working retirees. The CPI-W is based on households where at least one member has been employed for a minimum of 37 weeks a year, or where more than half of the household income derives from wages in qualifying occupations. Consequently, retirees without jobs are excluded from this index.

Instead, they are tracked by a different index known as the Consumer Price Index for the Elderly (CPI-E), which specifically focuses on the spending behaviors of those aged 62 and over, which often differ from younger individuals. For instance, seniors typically spend more on healthcare compared to younger adults, although they may spend less in other sectors.

Why retirees may be undercompensated by the COLA calculation

Many people advocate for switching from the CPI-W to the CPI-E for determining Social Security COLAs, as the CPI-E aligns better with how retirees spend their money. Such a change would likely produce larger COLAs most years.

The Senior Citizens League (TSCL), a nonpartisan organization for seniors, discovered that utilizing the CPI-E in place of the CPI-W would have yielded higher COLAs in seven out of the ten years from 2014 to 2024. If this had been enacted, retirees would have received an additional $2,689 in total over that decade.

In 2025, retirees will face the same concern. If the government had based the COLA on the CPI-E, seniors would receive a 3% increase in their benefits instead of the 2.5%. This would translate into an additional $10 in the average monthly check.

While it might seem minor, that extra $10 monthly would amount to $120 for retirees in 2025, which could nearly cover the Medicare Part B premium hike that will likely be deducted from their Social Security payments if enrolled in both programs.

Is a change in COLA calculation possible?

Currently, there are no specific plans to modify the COLA calculation from the CPI-W to the CPI-E, but changes could occur in the future. Some congressional members endorse this idea; however, it has yet to gain significant support. If such a change were to happen, it would likely be part of a broader reform aimed at addressing Social Security’s projected shortfalls.

For now, retirees will need to find ways to supplement their Social Security income with personal savings or earnings from jobs to bridge the gap in their benefits. Additionally, they should explore potential eligibility for other government aid programs, such as Supplemental Security Income (SSI), to make ends meet.

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