Social Security’s latest cost-of-living adjustment forecast for 2025 contains good news for retirees
Slow, steady inflation is ultimately beneficial for Social Security recipients.
Social Security is an increasingly important part of many seniors’ retirement budgets. In an annual Gallup poll, 60% of respondents said Social Security was a major source of income, the highest level in more than a decade. Twenty-eight% said it was at least a minor source of income in retirement.
Many seniors rely on Social Security to make ends meet, so the annual cost-of-living adjustment (COLA) is a big deal for them. Recipients receive increases to their monthly checks based on average year-over-year inflation in July, August and September each year. We’re about a month away from receiving the first round of data that will be used to calculate retiree COLAs, but analysts are already making their best guesses about what that might amount to.
Following the release of the June Consumer Price Index (CPI), the Senior Citizens League updated its forecast. Despite lower-than-expected inflation last month, the group revised its expectations upward to 2.63% COLA, up from 2.57% last month.
Seniors may be disappointed by the forecast that falls far short of the 3.2 percent cost-of-living increase they’ve been seeing this year. That’s especially true as Social Security becomes an increasingly important part of their budgets, while inflation has eroded its purchasing power. But the Senior Citizens League’s forecast is actually great news for retirees.
Image source: Getty Images.
The biggest problem facing elderly people dependent on social security
The annual cost-of-living adjustment can be a double-edged sword for retirees. Because the ACC is based on inflation, it only increases significantly when inflation increases significantly. Yet high inflation rates have been extremely detrimental to seniors’ retirement budgets.
The average retiree who started collecting benefits in 2000 has seen their cost of living rise much faster than their Social Security checks. The Senior Citizens League estimates that benefits have effectively lost 36% of their purchasing power. High inflation rates in 2021 and 2022 have led to significant increases in the cost of living, but also larger declines in the amount seniors could afford on their Social Security income alone.
But inflation is not always bad for older people. In fact, a healthy economy sees a slow and steady increase in the money supply, which results in a modest level of inflation. The Federal Reserve, which indirectly controls the money supply, currently aims to bring inflation down to 2% while maintaining full employment.
Looking at the recent history of Social Security COLAs and their effect on retiree purchasing power, we see that a lower COLA generally benefits seniors. Since 2010, Social Security purchasing power has improved most of the time when the COLA is below 3%. Purchasing power improved by a total of 13% during the years when the COLA was below 2% during that period.
So the expectation of a COLA of only 2.63% is good news for retirees.
Many retirees will not be able to keep their full COLA
Another problem with cost-of-living adjustments is that they don’t take into account Social Security income tax. A larger Social Security check often translates into a higher tax bill.
The way the government taxes Social Security is based on a measure called combined income. Combined income is equal to half of your Social Security income, plus your adjusted gross income, plus any untaxed interest income. So, all else being equal, an increase in your Social Security income increases your combined income, and more of your benefits could become taxable as a result.
Here’s how much of your Social Security income could be taxable based on your combined income and filing status.
| Taxable percentage of benefits | Combined income (single filer) | Combined income (joint filer) |
|---|---|---|
| 0% | Less than $25,000 | Less than $32,000 |
| Up to 50% | $25,000 to $34,000 | $32,000 to $44,000 |
| Up to 85% | More than $34,000 | More than $44,000 |
Data source: Social Security Administration.
If these thresholds seem low, that’s because they haven’t been updated in more than 30 years. The system doesn’t adjust for inflation, so each year more retirees see a larger share of their benefits taxed by the federal government as rising costs of living increase their combined income. Many states, however, exempt Social Security income from taxation.
A lower COLA means seniors keep more of their benefits.
How big will the 2025 COLA be?
Recent CPI numbers for May and June are better than expected. If inflation holds steady in the third quarter, the COLA would be just 2.3%. More likely, inflation will run 0.1 to 0.2% per month, which would translate into a COLA of 2.5 to 2.7%, in line with the Senior Citizens League’s forecast.
Inflation is expected to average nearly half a percentage point per month over the next three months to reach the same 3.2% COLA announced last October. This seems highly unlikely without major disruptions.
It’s already mid-July. The picture of how much the cost of living will increase in 2025 is starting to become much clearer. In a few months, the number will be set, and it will most likely be less than 3%. While that may be down from recent years, retirees should be looking forward to a higher cost of living and lower inflation. That means they’re more likely to see the purchasing power of their Social Security checks increase next year.
News Source : www.fool.com
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