Great News for Social Security Retirees: The 2027 COLA Will Most Likely Be the Highest in 4 Years

Although inflation remains stubbornly high, Social Security retirees can take some solace in knowing they will likely experience the largest cost-of-living adjustment (COLA) in four years in 2027.

While the 2027 COLA is not locked in yet, we now have two of the three critical puzzle pieces necessary to determine next year's COLA, providing strong visibility into what it will most likely be.

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How is the COLA calculated?

The Social Security Administration must calculate the COLA using the same formula each year, and that formula can't be changed without congressional approval. The goal of the COLA is to ensure that Social Security retirees can maintain their purchasing power. This is why the COLA is determined by inflation data.

While the broader market focuses on the Consumer Price Index for All Urban Consumers, which measures the price changes on a basket of goods and services, the COLA is actually determined by the Consumer Price Index for Urban Wage Earners and Clerical Workers.

Although contested by critics, the CPI-W was initially used to calculate the COLA because it was believed to be more representative of the costs retirees commonly incur. But the CPI-W is a subset of the CPI-U, so the percentage changes in each data set are similar when they are published each month.

The COLA is determined in the third quarter of each year for July, August, and September. The average number for each of these three months is then compared to the average three-month number from the prior year, and the percentage difference is the COLA for the following year. COLAs cannot be negative.

2027 is likely to be the highest COLA in four years

Coming into the year, most people thought the COLA could be lower than this year's because inflation had shown signs of slowing, and many expected the Federal Reserve to lower interest rates.

But everything changed once the Iran war began at the very end of February. Oil prices surged, leading to a sharp jump in inflation. Although oil prices have fluctuated, tensions between the U.S. and Iran have once again escalated, pushing prices above $100 per barrel.

Either way, we are now deep in COLA season, and the 2027 COLA is poised to be the highest in four years. Here are the past three COLAs:

• 2023: 3.2%
• 2024: 2.5%
• 2025: 2.8%

In both July and August of this year, the CPI came in 3.4% higher year over year. This means there is only one month remaining in the COLA calculation.

For the 2027 COLA to once again hit 3.2%, the CPI reading would have to come in only 2.9% higher year over year in September. We'll learn this number next month. Now, while not impossible, that would be a significant drop in a very short time, and remember, oil prices have surged thus far in September.

Additionally, the Federal Reserve Bank of Cleveland's Nowcasting tool projects the CPI to rise another 0.37% in September. So, I believe it's all but likely that the 2027 COLA comes in at 3.3% or higher.

This is good news for retirees because it will raise their average monthly checks from nearly $2,032, based on July data, to roughly $2,099 per month. That's an additional $67 per month, or $804 per year.

Now, COLAs are always a bit of a double-edged sword because, yes, retirees are seeing their benefits go up. However, so is the cost of living. The good news is that COLAs can never be negative, so the increase is theoretically in perpetuity.

Now, to be prudent, retirees should wait until next month, when the 2027 COLA is officially set in stone, before starting to budget for next year. But all signs point to the highest increase in four years.

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