U.S. Incomes Increase, But Are 2011 Tax Breaks Just Another COLA?

Do you feel a bit richer?

After a tax break that took effect at the beginning of the year, the Associated Press reports that U.S. incomes have been given a higher bump than they have in several years:

A tax cut that began last month gave consumers the biggest jump in their incomes in nearly two years. But Americans boosted their spending only slightly, a sign that many people are being cautious with their money even as the economy improves.

Consumers increased spending 0.2 percent in January, the smallest gain since June, the Commerce Department reported Monday. Personal incomes jumped 1 percent, reflecting the 2 percentage point reduction from the Social Security tax cut.

As most economists examine the impact on consumer spending, I wonder how tax changes might impact our view on compensation and whether small increases will be enough to stem possible retention difficulties?

How closely are you paying attention to taxes?

If you are like most people, you’re probably going to the bottom of your pay statement and looking at the bottom line figure. That’s the most important part. But when I started looking at some of the other figures, I noticed that there were some changes. Since my checks are relatively steady (within a few pennies), the first check of the new year came in with a dozen or so dollar difference. Nothing else changed between years, so it had to be a tax adjustment.

That being said, I didn’t really know that until I looked at it for this story. I have been thankfully relieved of any payroll related duties for several years so as long as the money keeps hitting my bank account every two weeks, I’m pretty good. And if it is within a few dollars of what I was expecting, so be it.

Now my wife doesn’t get paid based on a flat rate so it is hard to keep track about what’s going up and coming down when it comes to taxes. At the end of the year, we can figure out her rate and bank on that for the next year but it is imperfect.

Tax break simply a modified COLA?

It sort of reminded me of those cost of living adjustments (COLA) that at least used to be popular in corporate circles. You decide to give everyone a COLA once a year based on some sort of index.

When I was in human resources, we debated the merits of COLA but kept it in place at most of the places I worked. When belts started to get tightened (but we still had some money left for pay increases), do you continue a semblance of across the board increases or do you eliminate COLAs and focus on giving performance and position specific increases?

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It wasn’t a fun debate. Some folks argued that across the board increases were the best use of limited funds. I argued that it is better to target critical employees and positions in the company. I didn’t win every one of them either.

In principle, COLA was a way to not fall behind the Joneses in your pay. In practice, I’ve seen these increase retain less critical positions while more important ones laid waiting for the taking by competitors. The politicized process it takes to prioritize funding in your organization may be brutal but it is worth it in instances like this.

Effective? Maybe. Enough? Probably not

Of course, that leaves on the table the whole debate on whether COLA’s are truly that effective in maintaining pay at competitive levels. I’d argue that smart salary grading and compensation analysis is more effective at tracking overall compensation levels than mindless COLA increases.

If a field becomes more competitive than a 2 percent annual increase would allow, wouldn’t you adjust that? COLAs only work as a stop gap measure for those companies that can’t devote resources to properly researching compensation trends in their market.

As for a 1 percent increase? That’s nice but if you’re thinking of leaving it be, or, maybe matching the government’s generous tax break, but perhaps it might be better to look at what trends are impacting pay and go from there. If you have kept salaries relatively flat (like many companies have), a 1 percent increase in pay may only do more to show that you are out of touch with the realities of compensation practice.

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