Price spike in 2022 shows big problem with how Social Security calculates increases |  Smart Change: Personal Finances

Price spike in 2022 shows big problem with how Social Security calculates increases | Smart Change: Personal Finances

(Christy Biber)

Inflation news seems to be getting worse every month, with the latest report in March showing that prices for goods and services rose 8.5% year-on-year. This is the largest annual price increase since 1981. The sharp rise was driven by soaring costs for basic necessities including housing, gasoline and food.

Unfortunately, this skyrocketing inflation is really bad news for retirees. Rapidly rising prices not only erode the purchasing power of their savings, but it also demonstrates a very big problem with the way Social Security Cost of Living Adjustments (COLAs) are calculated.

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There’s a major problem with Social Security increases

Social Security COLAs are intended to ensure retirees don’t lose purchasing power as prices rise.

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To measure whether prices are rising, and by how much, the consumer price index for urban wage and office workers (CPI-W) is used. This price index measures the costs of a wide variety of goods and services. The social security COLA is set according to changes in the IPC-W. For example, if CPI-W shows that prices are up 2% year over year, retirees would get a 2% increase.

However, only certain months of CPI-W data are used. More precisely, the COLA is based on the average prices of the third quarter of the year preceding the increase. Thus, the only relevant months to know whether retirees get a raise or not are July, August and September. To be clear, this means that the increase seniors got in 2022 was determined based on the year-over-year price increase measured in July, August and September 2021 against the same months in 2020.

The problem is that inflation has increased since then. As a result, retirees have lost a substantial amount of purchasing power this year. Pensioners have received a 5.9% increase in their benefits in 2022. But with prices currently up 8.5% from the same period last year, the increase in their benefits is nowhere near keeping pace. rising costs.

The fact that the purchasing power of benefits has eroded so much this year shows the problem that can arise when inflation rises. Since the increase retirees are getting is based on older data, a rapid price increase can lead to serious financial hardship, especially as the purchasing power of investment savings also falls when costs rise.

What can retirees do?

The COLA formula just isn’t sensitive to spikes in inflation, and retirees can’t do anything about the fact that their Social Security increase may be too small when prices rise quickly after the increase is calculated of their services for the year.

However, seniors can adjust their budget to make sure they don’t go into debt or withdraw too much from their investment accounts when this happens. The sooner older Americans look for ways to cut spending as prices rise, the better their chances of maintaining long-term financial security.

Prospective retirees should also be aware that COLAs may not guarantee that retirement benefits do not decrease in value, so they should ensure they have enough savings to fund a comfortable life even if Social Security is down. insufficient.

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