What is cost-of-living pay adjustment?
A cost-of-living pay adjustment refers to an increase in income based on an estimation of how much money is needed to maintain a standard of living. This type of pay adjustment can be applied to a variety of income that includes salaries, benefits and more. It is given in order to make up for inflation. Therefore, if the cost of living rises, you can award an employee with a cost-of-living pay adjustment to make up for the change. For example, if your employee lives in San Francisco and the cost of living rose by 10%, you could increase your employee’s salary or annuity by 10%.
Related: How to Communicate a Pay Raise
Cost-of-living pay adjustment best practices
Here are some tips and best practices for awarding cost-of-living pay adjustments:
- Keep an employee’s salary commensurate with their living expenses. As an employer, it’s important to offer reasonable salaries and wages to your employees. A reasonable yet competitive salary based on the cost of living in your company’s city is appealing to both applicants and current employees. It also promotes a healthy work-life balance when your employees are able to afford basic life necessities.
- Give regular raises. Raising your employee’s salary on a regular basis is a good practice to keep. This can be given based on their added experience, to keep up with company competitors and more. Regular raises will not only help you retain employees, but will also help them keep up with their various living expenses. In regards to the former, if the cost of living gets to be too high for them, it’s possible they might begin to search for new employment elsewhere. If you’re offering a competitive salary or providing them with regular raises, you increase the likelihood of them staying at your company.
- Customize the cost-of-living pay adjustment for each employee given their location. If you have employees working across the U.S., adjust their pay increases accordingly. For example, if you have an employee working in Seattle and another in Nashville, the cost of living will be higher for the employee working in Seattle. Therefore, they should see a higher pay increase than the employee in Nashville. Take this into consideration when making new hires and offering pay adjustments. Do your research and determine a reasonable salary for that area.
- Research market rates. Researching market rates can be helpful in determining what positions are making more money in a given area. For example, if the market rate rises for a given profession, you should offer a pay adjustment for those with that profession at your company.
- Set boundaries. If your company is entirely remote and employees are able to move wherever, it’s important to let them know upfront if you’re not able to offer them a cost-of-living pay adjustment based on their relocation(s).
- Offer an increase when earned. Rather than offer a pay increase for no reason, do it when an employee has earned it. This can include rewarding them for their increased experience, a certain performance level they achieved and more. If they’re awarded an increase for no reason, they can come to expect unearned increases at any moment.
Private vs. government pay adjustment
Cost-of-living adjustments can be made by companies or governments, however, the government uses them far more often. For example, the government can decide whether or not individuals will see an increase in their benefits for the following year based on any changes in the cost of living. Companies, on the other hand, tend to focus more on giving raises and hiring employees based on the quality of their work rather than any changes in the cost of living.
The reason cost-of-living pay adjustment is less common among companies is because they’re trying to make their organization more profitable. Increasing wages based on the cost of living would lessen the likelihood of this happening. However, if a company asks you to move to a more expensive city, they could award you a cost-of-living pay adjustment to make up for inflation.
It’s important to note neither an employer nor the government is required to offer a cost-of-living pay adjustment. Therefore, it’s more of a matter of if they want to rather than when they should. If you choose to give an employee a cost-of-living pay adjustment, it should be given when the cost of living in their area has increased.
Cost-of-living adjustments FAQs
Here are some common FAQs when it comes to cost-of-living pay adjustments:
How do you determine the cost-of-living increase?
Whether or not a cost-of-living pay increase is given is based on a company or the government’s personal preference. It’s determined using standardized inflation rates—typically through regional or national data. One way to determine the cost-of-living increase is to use the Consumer Price Index. It’s important to note that the cost of living will change from year to year since inflation is always changing.
What’s an example of a cost-of-living pay adjustment?
Let’s say you work for a company in Boston. In the past year, the cost of living in this city rose by 5%. Because of this, you decide to give your employees a 5% increase in their wages. If one of your employees has a salary of $50,000, you would perform the following calculation:
$50,000 x 0.05 = $2,500
$50,000 + $2,500 = $52,500
Therefore, you would give them an increase of $2,500 which would make their new salary $52,500.