Annual Adjustment to Social Security Benefits Scheduled for 2025, Carries Unfavorable News for Retired Individuals
Inflation has significantly decreased since reaching its peak in June 2022, but it still poses a problem for numerous retired individuals. A recent survey conducted by the Employee Benefit Research Institute revealed that 56% of retirees are concerned about having to make significant spending reductions to cope with inflation.
The U.S. Social Security Administration has announced that it will provide a 2.5% cost-of-living adjustment (COLA) to Social Security benefits in 2025. This is the smallest increase in COLA for beneficiaries since 2021, and the majority of retirees view this as inadequate, according to a recent survey conducted by Our Website.
Kevin Thomson, a finance expert and CEO of 9i Capital Group, stated, "The COLA increase is not enough to eclipse the growing expenses faced by Social Security beneficiaries." He added that this increase is likely to be overshadowed by rising costs in shelter and medical expenses over the past year.
Key Points:
2.5% COLA for Social Security Benefits in 2025
Social Security beneficiaries get annual cost-of-living adjustments (COLAs) to protect the purchasing power of their benefits by ensuring that payments rise at the same pace as inflation. The metric used to track inflation is the Consumer Price Index (CPI-W), which measures inflation based on the spending habits of urban wage earners and clerical workers.
The COLA is calculated by dividing the average CPI-W reading for the current year's third quarter (July through September) by the equivalent reading from the previous year. The resulting percentage increase then serves as the COLA for the following year. For example, if the CPI-W increased by 2.5% in the third quarter of 2024, Social Security benefits would receive a 2.5% COLA in 2025.
Based on the Social Security Administration's calculations, the average retiree will receive an additional $49 per month or $588 for the entire year in 2025. However, this increase may not accurately reflect the pricing pressures that retirees are facing, resulting in a potential loss of purchasing power in the following year.
Social Security Benefits Likely to Lose Buying Power in 2025
The CPI-W primarily focuses on the spending habits of younger, working-age adults. Some policy experts argue that this is problematic because older adults spend differently than their younger counterparts. For instance, retired individuals tend to spend more on housing and medical care and less on education and transportation.
As a result, the CPI-W may not accurately reflect the inflation experienced by retired individuals. The Senior Citizens League, a nonprofit advocacy organization, estimates that this misalignment has caused Social Security to lose 20% of its purchasing power since 2010. In 2025, this issue is likely to worsen due to faster price increases in understated categories (housing and medical care) and slower price increases in overstated categories (education and transportation).
- Housing: 4.3%
- Medical Care: 3.4%
- Education: 0.4%
- Transportation: (-0.5%)
Unlike the CPI-W, which is weighted based on the spending habits of younger adults, the Consumer Price Index for the Elderly (CPI-E) considers inflation based on the spending habits of individuals aged 62 and older. The CPI-E increased by 3% in the third quarter of 2024, outpacing the CPI-W by half a percentage point. Had the COLA been based on CPI-E inflation, Social Security recipients would have received a 3% COLA in 2025, resulting in an additional $58 per month or $696 for the entire year.
However, implementing the CPI-E as the basis for COLAs is unlikely to gain traction in Congress due to concerns over the Social Security fund's multitrillion-dollar funding shortfall. Larger COLAs would exacerbate this issue, making it more difficult for the Social Security Administration to maintain the program's long-term financial stability.
On the upside, retired individuals can explore alternative income options in 2025, such as high-yield savings accounts or certificates of deposit, both of which are benefiting from elevated interest rates. Additionally, the stock market's record-breaking performance over the past few years may make 2025 an opportune time to sell some stocks.
Despite the 2.5% cost-of-living adjustment (COLA) for Social Security benefits in 2025, finance expert Kevin Thomson remarks that it might not sufficiently offset the rising expenses faced by beneficiaries, particularly in shelter and medical categories. Many retirees, consequently, might need to reevaluate their retirement finance strategies to make ends meet, considering the potential loss of purchasing power in 2025.
