For most American retirees, a Social Security check isn’t just another piece of paper. It’s a vital source of income that the vast majority of people over 62 could barely survive without.

For 23 years, Gallup polling firm has surveyed retirees to determine how much they rely on the income from America’s main retirement program. Consistently, between 80 and 90 percent of retirees rely on their monthly payout to cover at least some of their expenses. In Gallup’s 2024 poll, only 11 percent of respondents said they don’t need their Social Security benefits.

For the 86 percent of welfare recipients who are 62 or older, nothing is more important than the announcement of the annual cost-of-living adjustment (COLA), scheduled for October 10.

While Social Security’s COLA for 2025 is on track to make history, it will also likely bring a lot of disappointment for retirees.

Image source: Getty Images.

What is the purpose of the Social Security COLA and how is it calculated?

In a perfect world, the price of the goods and services we buy would stay the same and we would never have to worry about our wages, salary, or benefits not keeping up with inflation (rising prices). But in the real world, the price we pay for all kinds of goods and services is dynamic. The purpose of Social Security’s COLA is to ensure that benefits do not lose purchasing power over time.

Before 1975, cost-of-living adjustments were rhetorically passed by special sessions of Congress. After the 1940s, when no adjustments to welfare were made, Congress passed eleven COLAs from 1950 to 1974.

Starting in 1975, the Consumer Price Index for Urban Wage Earners and Clerical Workers (CPI-W) became the inflation measure used by Social Security to calculate annual cost-of-living adjustments. The CPI-W has over half a dozen major spending categories and a variety of subcategories, each with a unique percentage weight. These weights allow the CPI-W to be reduced to a single number at the end of a month, allowing for a quick and easy year-on-year comparison to determine whether prices are rising or falling overall.

Although the CPI-W is published monthly by the US Bureau of Labor Statistics (BLS), only the values ​​of the last 12 months starting from the third quarter (July to September) are used to calculate the COLA.

If the average CPI-W reading increased in the third quarter of the current year compared to the same period last year, inflation has occurred and welfare recipients will see an increase in their benefits in the following year. The amount of this increase is determined by the percentage change in the average CPI-W readings in the third quarter from the previous year, rounded to the nearest tenth of a percent.

A rise in the inflation rate in the US has led to three above-average COLAs in a row. US inflation rate data from YCharts.

The Social Security cost-of-living adjustment in 2025 will make history

Currently, nothing is set in stone regarding Social Security’s cost-of-living adjustment in 2025. Although July is already over, we still need to get two months of inflation data from the BLS before the official COLA is set.

But at the time of writing, before the BLS releases its July inflation report, the 2025 COLA appears to be on track to make history.

For most of the past 15 years, Social Security COLAs have been insignificant, with two-thirds of cost-of-living adjustments being 2% or less. That includes three years with no COLA (2010, 2011, and 2016)—there is no COLA when deflation sets in and prices fall year-over-year—and the lowest COLA ever (0.3% in 2017).

The last three years, however, have been a nice relief for beneficiaries, with COLAs of 5.9%, 8.7%, and 3.2% being passed on in 2022, 2023, and 2024, respectively. The 8.7% COLA in 2023 was the largest year-over-year percentage increase since 1982, and also the largest year-over-year nominal dollar increase for the average retiree since Social Security was introduced.

According to the Senior Citizens League (TSCL), a nonpartisan senior advocacy group, the COLA in 2025 is expected to be 2.63%, which would be rounded down to 2.6%. That’s exactly the same as the average COLA of the past two decades of 2.6% and would be the first time in 28 years that four consecutive COLAs have reached at least 2.6%.

Meanwhile, independent Social Security and Medicare policy analyst Mary Johnson, who recently retired from TSCL, predicts the COLA will be a slightly more robust 2.7% in 2025. It has been 32 years since beneficiaries received a COLA of at least 2.7% for four years in a row.

Regardless of whether TSCL’s or Johnson’s forecast proves to be more accurate, both suggest that beneficiaries are in for a historic “raise” in the coming year.

Image source: Getty Images.

Three disappointments await pensioners

In nominal dollar terms, a fourth consecutive year of average or above-average COLAs probably sounds fantastic—especially after so many years of below-average benefit increases. But when you add perspective as a key ingredient to Social Security’s 2025 COLAs, the end result for retirees looks more like disappointment.

The first (and obvious) problem is that retirees will receive their lowest COLA in four years. Although it’s been about three decades since COLAs were this high for four years in a row, a drop from 8.7% to 3.2% year-over-year and then potentially a drop to 2.6% or 2.7% next year is quite a punch in the gut. For the average retiree, a 2.6% or 2.7% COLA would only increase monthly checks by $50 to $52 next year.

The second disappointment for pensioners is a continuing loss of purchasing power.

Although the CPI-W has made it much easier to pass along annual COLAs since 1975, it is ultimately an inflation index that tracks the spending habits of “urban wage earners and office workers.” These are typically working-age Americans who are not currently receiving Social Security benefits, and they spend their money very differently than retirees.

Seniors spend a higher percentage of their monthly budget on housing and medical care than the average working-age American. Through June 2024, the trailing 12-month unadjusted inflation rate for housing and medical care was significantly higher than the respective TSCL and Mary Johnson COLA estimates for 2025.

TSCL has found that Social Security income has lost 20% of its purchasing power since 2010. A COLA of either 2.6% or 2.7% in 2025 is likely to exacerbate this loss of purchasing power.

The third blow for retirees is that premiums for Medicare Part B — Part B is the section of Medicare that covers outpatient services — are expected to rise 5.9% to $185 per month in 2025, according to the Medicare Trustees Report released in May. Although this is only an estimate, there is a strong probability that Part B premiums will at least double Social Security’s COLA in 2025.

For many retirees, many of whom receive Medicare and whose monthly pension is automatically deducted from their Social Security check, this means that most or all of their 2025 COLA could be eaten up by higher Part B premiums.

Even though the Social Security cost-of-living adjustment in 2025 will be a historic event, retirees will once again lose out.

The $22,924 Social security bonus that most pensioners completely overlook

If you’re like most Americans, you’re a few years (or more) behind on your retirement savings. But a handful of little-known “Social Security secrets” could help boost your retirement income. For example: One simple trick could earn you up to $.22,924 more… every year! Once you know how to maximize your Social Security benefits, we believe you can retire with the security we all seek. Just click here to learn more about these strategies.

Watch the “Secrets of Social Security” ›

The Motley Fool has a disclosure policy.