Pensioners of this age will receive the biggest pay increases next year

The Labor Department will release September inflation data on October 10, and shortly thereafter, the Social Security Administration will announce the official cost-of-living adjustment (COLA) for 2025. COLAs protect Social Security's purchasing power by ensuring that benefits increase at the same rate as inflation.

Retirees are anxious about how much extra Social Security income they will receive next year as rising prices have become increasingly burdensome. According to Gallup, 63% of U.S. adults surveyed in 2024 said inflation has caused financial hardship to some degree, up from 45% in 2021.

The Senior Citizens League (TSCL), a nonprofit advocacy group, estimates that pensions will receive a 2.5% COLA next year. That would be the smallest increase for retirees in four years. While all payouts will increase by the same percentage, retirees above a certain age will receive the highest COLAs in nominal dollars.

Read on to learn more.

Retirees aged 70 will receive the highest nominal COLAs in 2025

The average Social Security benefit for retired workers was $1,920 in September 2024. That amount will increase by $48 next year under a 2.5% cost-of-living adjustment (COLA).

However, retirees with above-average benefits receive higher nominal COLAs, meaning their payouts increase by more than $48. Retirees with below-average benefits also receive lower nominal COLAs, meaning their payouts increase by less than $48.

The following table shows average Social Security benefits for retirees ages 62 to 80. Information comes from a biennial report last updated on June 30, 2024. Payment amounts have been rounded to the nearest dollar.

Data source: Social Security Administration.

Based on the chart above, retirees who will be 70 on June 30, 2024, will receive the highest nominal COLAs next year. That's true because they already receive the highest Social Security benefits.

Let's look at it this way: If the average retiree's pension at age 70 is $2,068 per month and Social Security's COLA for 2025 is 2.5%, then the average 70-year-old will receive an additional $51.70 per month next year. No other age group has a high base pension, so no other group will receive a higher COLA.

The story continues

Pensioners aged 70 usually receive the highest social security benefits

As shown in the graph, retirement benefits for retirees typically increase with each age group between 62 and 70, and typically decrease with each age group thereafter. In other words, retirees at age 70 typically receive the highest Social Security benefits at any given time. This pattern is due to the way payments are calculated.

In particular, pensioner benefits are determined on the basis of lifetime earnings and eligibility age, as explained below:

• Step 1: The Social Security Administration calculates each person's primary insurance amount (PIA) by applying a formula to earnings from their 35 best-paid years of work. This happens when a person turns 62, the age at which they become eligible for retirement benefits, but their PIA is recalculated each year as long as they remain employed.

• Step 2: The PIA is adjusted based on the age of eligibility. People who start Social Security before full retirement age will receive a lower benefit, that is, less than 100% of their PIA. People who start Social Security after full retirement age will receive a higher benefit, that is, more than 100% of their PIA. However, the incentive to delay the benefit disappears after age 70, so it never makes sense to claim the benefit later.

In both steps, the PIA is changed by annual COLAs that are indexed to inflation. This happens even if the person has not yet collected Social Security. In this sense, there are really three variables that affect benefits: lifetime earnings, eligibility age, and inflation. But after age 70, inflation is the only variable that matters. Most people are already retired by this point, so they no longer have any income to increase their benefits, and becoming eligible for Social Security after age 70 would not change the payout.

What now? Wages have historically risen faster than inflation, so benefits for new welfare recipients tend to rise faster than benefits for existing recipients. But for the reasons I just explained, the tide usually turns after age 70. That explains why 70-year-old retirees typically receive the highest welfare benefits. It also explains why 70-year-old retirees will likely receive the highest nominal COLAs in 2025.

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Social Security's 2025 COLA: Retirees at this age will get the biggest raises next year. Originally published by The Motley Fool