Social Security is the backbone of many seniors’ retirement budgets. More than two-thirds of senior citizens rely on the government program for at least half of their income, according to a survey from The Senior Citizen’s League.

With inflation impacting everything from grocery prices to healthcare costs, many seniors have felt the impact on their budgets. That’s why Social Security includes a cost-of-living adjustment, or COLA, every year based on a measure of inflation to help retirees maintain their standard of living. Seniors received a 2.5% bump in their monthly benefits starting in January, but that’s down from the 3.2% increase they collected in 2024.

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The early forecast for the 2026 COLA is already out, and seniors could be in for an even smaller raise in 2026. The Senior Citizens League expects a 2.3% benefits raise next January. While that’s lower than it’s been in recent years, the result could be a pleasant surprise for many.

Image source: Getty Images.

How the government calculates your COLA

The annual Social Security COLA is based on a measure of inflation called the Consumer Price Index for Urban Wage Earners and Clerical Workers. But since that’s a mouthful, everyone calls it the CPI-W. The CPI-W tracks the cost of a basket of goods reflecting the typical purchases of someone working in or near a city.

The Social Security Administration takes the average increase in the CPI-W during the third quarter of the current year compared to the previous year. That increase in inflation becomes the COLA for the next year.

Many believe the measurement and process used to calculate the annual COLA is flawed. The Bureau of Labor Statistics started collecting data on senior citizen’s cost of living in 1987, developing a consumer price index for elderly Americans, or the CPI-E. Some advocate switching to this more accurate measure of senior’s expenses in retirement for the Social Security COLA.

As it stands, Social Security appears to be failing to keep up with the rising cost of living for many senior households. A study from The Senior Citizen’s League suggests someone who started Social Security in 2010 has lost 20% of their buying power over the last 15 years. Unfortunately, a switch to the CPI-E wouldn’t curb that difference very much.

The real challenge seniors face is that the COLA is always backward looking. The government doesn’t have a crystal ball that can tell it how much prices will increase for seniors in 2026 or beyond. As such, its best option is to use the previous year’s inflation measurement to adjust benefits for the next year. But when inflation spikes, seniors find their benefits checks simply cannot keep up.

As such, seniors should be rooting for slow and steady inflation. That will enable the government to provide more accurate COLAs reflecting the real increases in cost of living seniors experience from year to year. So, a 2.3% COLA for 2026 could be great news for seniors, even though it’s a decline from recent years.

Don’t forget about taxes

Another reason seniors should favor a lower COLA is that many seniors are unable to capture the full benefit of a higher COLA. That’s due to the way the government taxes Social Security benefits.

The government uses a metric called combined income to determine what percentage, if any, of your Social Security benefits are subject to income tax. Combined income is equal to half of your Social Security benefits, plus your adjusted gross income, plus any untaxed interest income. If the amount exceeds certain thresholds, a portion becomes taxable based on the following table.

Data source: IRS.

If those thresholds seem low, that’s because the government hasn’t updated them since they were created over 30 years ago. There are no inflation adjustments built into Social Security taxation.

As a result, the annual COLA pushes more and more Social Security benefits into taxable territory for many seniors. The bigger the COLA, the more likely it is to increase your benefits to the point where at least a portion of them become taxable. As a result, the actual increase in your take home pay doesn’t reflect the actual increase in your cost of living.

Where will the 2026 COLA end up?

It’s still only February, but we saw a spike in inflation in January. The CPI increased 3% year over year, and many are concerned that inflation could remain elevated throughout the year due to the current administration’s stance on trade and tariffs.

The Federal Open Market Committee is committed to pushing inflation down to 2%, but it only has so many tools in its arsenal to do so. After cutting interest rates by a percentage point late last year, it appears to be taking a pause on rate cuts for now. Investors expect just one or two rate cuts in 2025, which suggests they see inflation remaining above that 2% level through the rest of the year.

So, while inflation may have come down from the rampant price increases we saw earlier in the decade, 2025 may be another year in which seniors face a challenging economic environment. There’s no telling how prices will change over the next nine months, but seniors should be rooting for inflation to come down. If that happens, it’ll mean a lower COLA next year, but they might be better off for it.

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