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Earlier this year, the Social Security Administration announced that retirees would be getting larger Social Security paychecks because of inflation. With inflation at its highest rate in nearly 40 years, the Social Security Administration is implementing an 8.7% cost-of-living adjustment beginning in January 2023.
This means that the average retiree benefit will increase to $1,827 per month, up $146 from the previous year. Below, Select looks at why the Social Security administration adjusts benefits due to inflation and how it could impact the program.
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In 1973, the Social Security Administration tied benefits to a price index known as the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W). Every year, the Social Security Administration uses this index to adjust the value of benefits.
Benefits represent about 30% of retirement income for all seniors, so the adjustment ensures that the value of the benefits does not diminish with inflation. And of course, since most people don't receive a significant amount of retirement income from Social Security benefits, you should try to save for retirement independently through an employer-sponsored 401(k) or an individual retirement account (IRA).
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Social Security benefits are funded through payroll tax deductions which are split between the employee and employer. The total payroll tax for Social Security is 12.4%, so workers and employers each pay 6.2%. The payroll tax only applies up to a certain income threshold.
The Social Security Administration adjusts the income threshold each year in response to changes in wages. For 2023, the payroll tax applies to up to $160,200 of an individual's salary, up from $147,000, from the previous year.
Social Security is funded by current workers paying for current beneficiaries. Due to demographic changes in the coming years, there will be a decreasing number of workers paying for an increasing number of beneficiaries. This means that the Social Security trust fund could face a funding shortfall with too few workers paying for too many beneficiaries.
The Social Security Administration forecasts that in 2034, the Social Security trust fund will be depleted and that retirees will only receive 77 percent of their benefits if Congress doesn't take action before then to resolve the funding issue.
The 8.7% COLA adjustment could expedite how fast the trust fund is depleted, according to Shai Akabas, Director of Economic Policy at the Bipartisan Policy Center.
However, there's no specific projection on how the new COLA will affect the trust fund depletion date.
With inflation causing price hikes in everything from food to gasoline, retirees can look forward to receiving higher Social Security checks in 2023. Social Security retirement benefits will increase by 8.7% to help retirees cope with inflation. This could impact how fast the Social Security trust funds are depleted but only time will tell.