In a matter of just a few years, a salary that used to pay for a comfortable lifestyle can become too little to make ends meet. That's why retirees who depend on Social Security or pensions rely on cost-of-living adjustments, or COLAs. For example, the Social Security Administration used a specialized formula to determine the cost-of-living increase in 2017 to be 2 percent. This method of keeping up with inflation can help businesses too.
What Is a COLA?
A COLA helps employees keep up with the standard of living. Unlike traditional raises, employers do not base this increase on merit. Instead, all employees receive this adjustment. It helps them afford the same goods and services as when you first hired them.
COLAs are typically not random and may not be the same for all areas. Although the SSA uses a flat percentage across the nation, you may choose to adjust your employees' income based on the cost-of-living changes in your area.
Why Businesses Use COLAs
Public pensions and the SSA use COLAs to keep retirees on fixed incomes in the black. Although your employees aren't on fixed incomes and can leave to find better-paying jobs, you may want to offer regular COLAs to keep them around.
Turnover can be expensive for companies. The more you have to train new staff, the more you will spend each time someone leaves to find a better position. If your business cannot offer the most competitive salaries in your area, you can consider guaranteed COLAs to help attract and retain talent.
Use COLAs to Relocate Employees
You may also use a COLA if you want a great employee to move from one office to another in an expensive part of the country. For example, if you hope to relocate your best salesperson from Dallas, Texas to San Francisco, California, you will have to make it worth his while. Make sure that the raise you offer him at least makes up for the increase in living costs.
If the employee is taking on a position with more responsibility, you should calculate the COLA first. Then, you can give him the appropriate percentage of raise on top of the adjusted salary. This ensures that you fairly compensate your staff member and that he makes a competitive wage for his new area.
For example, imagine an employee makes $60,000 in his current role, and you determine that maintaining the cost of living in his new home would take $70,000. You plan on giving him a 10 percent raise for the promotion. You would pay him $77,000 per year.
How to Determine COLAs
Some employers choose to simply follow the SSA's recommendation for COLAs. However, this is a national average that is specific to the needs of seniors. If you want to better tailor your COLA to your employees' needs, you can use the Consumer Price Index. This index measures inflation.
The Bureau of Labor Statistics publishes statistics on the CPI. The bureau uses four main categories to break down price increases: all items, food, energy and all items except food and energy. The site also offers insight about housing prices and monthly data.
If you're concerned about the cost of living in your area, you can use the site's regional data, where you can find information on the cost of living in census regions, states and metroplexes.
Use a Salary Increase Calculator
While you could break out the calculator and try to do the mathematics yourself, online cost-of-living calculators can do the work for you. If you want to see how much you will need to pay an employee to have the same standard of living in a new city, you can use the CNN Money cost-of-living calculator. Simply input the current salary and city to get your answer.
The American Institute for Economic Research has a pay raise calculator that compares past costs to the current year. You can look back as far as 1913 to see what any amount would be in today's dollars.
- Social Security Administration: Cost-Of-Living Adjustments
- Bureau of Labor Statistics: Consumer Price Index
- CNN Money: Cost of Living: How Far Will My Salary Go in Another City?
- American Institute for Economic Research: Cost of Living Calculator
- Patriot Software: What Is a Cost of Living Raise?
- Social Security Administration. "Latest Cost-Of-Living Adjustment." Accessed March 17, 2020.
- U.S. Bureau of Labor Statistics. "Consumer Price Index Frequently Asked Questions." Accessed March 17, 2020.
- Council for Community and Economic Research. "C2ER Cost of Living Index." Accessed March 17, 2020.
- If your geographical region is more repressed economically than the rest of the country, check for local CPI rates and apply those instead to your employee’s pay rate, assuming you have the appropriate capital to absorb the cost.
Mackenzie Maxwell is a small business owner. She has two businesses, including a martial arts gym in Texas. Prior to building her own, Mackenzie worked with small businesses and organizations to create effective marketing - from churches to insurance companies. She enjoys helping businesses with the startup spirit grow. Mackenzie has been writing in this field for six years and shows no signs of slowing.