Cost of Living Adjustment is a crucial aspect considered by corporations when relocating employees or hiring talent from different geographical regions. What is COLA? COLAs are payments designed to compensate employees for the higher cost of living they encounter in their new destination.
Understanding Cost of Living Adjustment (COLA)
Cost of Living Allowances or Adjustments, commonly known as COLA, serve a common purpose: to bridge the gap between the cost of living in a low or moderate region and that in a higher-cost location. The employer provides compensation to the employee based on factors like housing, goods and services, and taxes, enabling them to maintain the same standard of living in their new area.
Calculating Cost of Living Adjustment
The foundation of providing a fair cost of living adjustment lies in an accurate calculation. Several providers offer services to calculate costs of housing, goods, services, and other factors to determine the standard. The origination city’s cost index is then compared to that of the new city to identify the cost difference. Many employers have a limited number of potential locations for employee relocations, making it easier to assess cost indexes. Employers may also compare entire regions instead of individual cities for ease of calculation. WHR can help our clients understand the COLA formula and make the best decision.
Factors in Determining COLA
Employers must decide under what conditions they will offer a cost of living adjustment. The percentage of change in the cost of living between the locations is a critical factor in determining COLA. Some employers may require a cost-of-living change greater than 3%, 5%, or 10% to provide the COLA. Those aiming to offer more generous benefits may set a lower threshold for cost-of-living changes to benefit a larger number of employees. Every employer will determine their COLA benefits differently.
Duration and Payment of COLA
Once it is determined that a COLA should be provided, the next consideration is the duration and payment method. Traditionally, U.S. domestic COLAs are calculated once and paid either as a lump sum allowance or distributed over a specified period. Companies may choose to maintain the adjustment for an extended period to allow employees more time to adapt to their new location.
On the other hand, international COLAs are recommended to be recalculated more frequently due to fluctuating currency rates, inflation, and other uncontrollable factors. For international assignments with pre-determined end dates, companies often offer the cost of living adustment for the entire duration. However, if the assignment is open-ended, the company may transition the employee to the local standard of living (localizing) and discontinue the COLA after a set period.
Importance of Benchmarking
Relocation benefits can vary significantly across industries. Therefore, benchmarking your organization’s COLA policy against peers is crucial. Some industries may offer more frequent and generous COLAs, while others may not consider it at all. Understanding these variations can help you determine if a COLA adjustment or increase is needed or not. Ultimately it can help you tailor your policy to meet your organization’s needs.
Cost of Living Adjustment is a vital tool/formula used by corporations to ensure their employees can maintain the same standard of living when relocating to higher-cost locations. Companies can design worker compensation and relocation packages that attract and retain top talent, by understanding the factors involved in calculating COLA and benchmarking against industry peers.
Improve your COLA benefits with our Allowances & Per Diems Benchmark.