Will COLA Increase Raise My Taxes?

Every year, Social Security recipients may see a boost in their benefits due to a Cost of Living Adjustment (COLA). While this adjustment helps recipients keep up with inflation, it could have unexpected tax consequences. If your COLA increase pushes your total income beyond certain thresholds, it may result in higher taxes on your Social Security benefits.

What is COLA?

The Cost of Living Adjustment (COLA) is an annual increase in Social Security benefits designed to keep up with inflation. The adjustment is based on the Consumer Price Index (CPI), which measures the cost of living. In years when inflation is high, the COLA increase can be significant, providing much-needed relief for retirees who rely on Social Security as their primary income.

How COLA Affects Your Taxes

While a COLA increase raises your monthly Social Security payments, it could also increase your taxable income. This is because your combined income—which includes your Social Security benefits—determines how much of those benefits are subject to federal income tax.

If the COLA increase causes your total income to exceed certain thresholds, it may push you into a higher tax bracket, leading to an increase in the percentage of your benefits that are taxable. In some cases, this could result in higher taxes on your benefits, even though the increase is intended to help offset inflation.

The Impact on Taxable Income

Your combined income is calculated by adding:

• Your adjusted gross income (AGI)
• Any nontaxable interest
• Half of your Social Security benefits

If your combined income exceeds certain limits, the IRS taxes a portion of your benefits. For instance, if your income rises as a result of COLA increases, you may find that up to 50% or even 85% of your Social Security benefits become taxable.

The Tax Thresholds

The taxability of your Social Security benefits depends on your filing status and combined income:

• For single filers, if your combined income exceeds $25,000, you may pay taxes on up to 50% of your benefits. If it exceeds $34,000, up to 85% may be taxable.
• For married couples filing jointly, the thresholds are $32,000 and $44,000.

Pushing You into a Higher Tax Bracket

In addition to increasing the amount of Social Security benefits that are taxable, a COLA increase may push your total income into a higher tax bracket. This can result in higher overall tax liability, not just on your Social Security benefits, but also on other sources of income like pensions, retirement withdrawals, and earned income.