Why The Social Security Administration is Not Raising its COLA and What It Means For You

Not surprisingly, the Social Security Administration has announced that benefits will again not receive an increase for 2011.  This makes two years in a row that there has been no increase.  Since 2010 ushered in the first ever zero COLA (since it was first put in place in 1972), this is now the first time that there have been two years in a row with zero COLAs.

Why?

The Cost of Living Adjustment (COLA) is based upon the Consumer Price Index for Urban Wage Earners and Clerical Workers, or CPI-W.  If this factor increases year-over-year, then a COLA can be applied to Social Security benefits.  See How Social Security COLAs Are Calculated for details on the calculations.

In 2009, when the COLA was being calculated for 2010 benefits, the CPI-W actually decreased -2.2%.  So naturally, there would be no increase for that year.  However, now in 2010, there has been an increase in the CPI-W over the previous year, of +1.5%.  So why aren’t we seeing an increase for 2011?  Because the increase for 2010 was not more than the decrease we saw in the previous year.

Since the calculations (begun in 1972) did not provide for a reduction in benefits when the CPI-W was negative, any negative CPI-W figure must be overridden by increases before additional COLA increases will be factored in.  So in other words, even though we had an increase from 2009 to 2010, the CPI-W is still a net negative from 2008 to 2010, and therefore there is no COLA for 2011.

History

Way back in 1972 when the automatic COLAs were first enacted, inflation was a major fact of life.  Without question, every year you could count on inflation.  It was considered such an automatic thing that Congress initially set the rule that a COLA would only be applied if the CPI-W increased by more than 3% for the prior year, known as the 3% Trigger (and no, it doesn’t have anything to do with Roy Rogers’ horse).  As far as I can tell, the 3% Trigger was never applied, although it would have been applied in 1986 had the Trigger not been repealed in 1985 (inflation was waning in the 1980’s, so Congress dropped the Trigger).

When the automatic COLAs were put in place, the fact that a year of deflation could occur was accounted for – so that if there has been deflation, the amount of reduction must be overridden by future years’ inflation before an additional positive COLA is applied.  This is exactly the case for 2010 and 2011 – and will also be the case for 2012 if there has not been more than 0.7% additional inflation by the time the calculation is done in 2011.

Medicare Part B Impact

Medicare Part B premiums also increase regularly, albeit by a different scale.  The Part B increase is based on the cost of healthcare, which is different from the CPI-W.  In the case that an increase is calculated for Medicare Part B premiums for 2011 (later this year), most (70%) of all folks paying this premium will not have to pay an increased amount, since the “hold harmless” clause requires that the net Social Security benefit received by the lowest-paid beneficiaries will not be decreased.

If you’re in the upper echelon of Social Security recipients, you’ll still have the increased Medicare Part B premium applied to you.

What it Means

In the end result, what this really means is that, at least according to the cost of the goods and services studied by the CPI-W, Social Security benefit payments are actually larger today (and will be for 2011) than they were in 2008.  Products and services that cost $100 at that time cost only $97.80 at the end of 2009.  And now, at the end of 2010, that same group of goods and services still only costs $99.30.  I know it’s not what you want to hear, but that’s what the index shows.

And if you think about it, it’s true.  Just take the price of gas for instance.  Back in 2008, the cost of a gallon of gas flirted with $4 at several points through the year.  In 2010, although it’s creeping back up, the price of a gallon of gas has rarely been over $2.75 (at least here locally).

About the author

Jim Blankenship, CFP®, EA

Jim Blankenship is the founder and principal of Blankenship Financial Planning, Ltd., a financial planning firm providing hourly, as-needed financial planning and advice. A financial services professional for over 25 years, Jim is a CFP professional and has earned the Enrolled Agent designation, a designation that qualifies him as enrolled to practice before the IRS. Jim is also a NAPFA-registered financial advisor, which designates him as a Fee-Only Financial Advisor.

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4 Comments

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  • Hello, jeri –

    You can control whether or not taxes are withheld when you take a distribution from your IRA – but typically at least a portion (if not all) of your distribution will be subject to ordinary income tax rates. “How much” is going to be dictated by your income and the amount of the distribution.

    Why anyone would put money in an IRA only to be taxed on it later? For many folks, when the money was contributed to the IRA it resulted in a deduction from income. Depending upon the circumstances, the deduction from income may have been at a higher tax rate than the tax rate which will be applied to the distributions later in life. Therefore, there is at least a potential for tax savings in having contributed the money to an IRA. Of course, it doesn’t always work out that way – the rates could be higher or the same, depending on your circumstances.

    Hope this helps –

    jb

  • Hi Jim,
    When a person has an IRA and the distribution has to be taken what
    can be expected ? last yr no taxes were taken is that right? & this yr it will be?
    Why would anybody put their hard earned money in an IRA just to have IRS take so much out.

  • Specifically, what are the actual goods and services components that are measured by the CPI-W, which are said to be decreasing, rather than increasing, as I see them doing on a daily basis? Additionally, I’ve noticed that packaging for everyday food purchases has gotten smaller, which actually represents an increase in price UNLESS the price also decreases corrrespondingly

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