Cost-of-Living Adjustments and Pay Equity Reviews: A Practical Guide for HR

Picture two emails landing in an HR inbox the same week. One is from the CFO, asking whether next year’s raises should track inflation. The other is from an employee who noticed a coworker’s salary range on a job posting and wants to know why their own pay looks different. Both questions point to the same place: how a company decides what to pay people, and whether it can defend that decision if someone asks.

Cost-of-living adjustments and pay equity reviews get lumped together in HR planning, but they solve different problems. A cost-of-living adjustment keeps pay in line with inflation. A pay equity review checks whether people doing similar work are actually paid similarly, and whether the company could explain any gaps if the Equal Employment Opportunity Commission or a state agency came asking. Handle one without the other, and a business can end up giving raises that don’t fix the underlying inequities, or spotting inequities it doesn’t have the budget to correct. This guide walks through both, using current CPI data and the compliance rules HR teams are actually working under in 2026.

Last updated: August 2026.

What a Cost-of-Living Adjustment Actually Is (and Why It Isn’t a Merit Raise)

A cost-of-living adjustment, usually shortened to COLA, raises pay to offset inflation. It’s applied broadly, often as the same percentage or dollar amount across a job group, department, or the whole company. The goal isn’t to reward anyone for doing great work. It’s to keep real, inflation-adjusted pay from quietly shrinking year over year.

Merit increases work the opposite way. They’re individual, tied to performance, and meant to reward the employee who hit their targets, took on more responsibility, or simply did the work better than the person next to them. Mixing the two up causes real problems. If a company folds its COLA into the merit pool without saying so, top performers end up with raises that look generous on paper but barely outpace inflation once you account for the cost-of-living piece baked in. That’s a fast way to lose good people who feel like their hard work went unnoticed.

Here’s the distinction that matters for equity purposes, too. The federal Equal Pay Act allows employers to pay people differently for equal work when the difference is based on a seniority system, a merit system, a system that measures earnings by quantity or quality of production, or any other factor unrelated to a protected class, according to the U.S. Equal Employment Opportunity Commission. A documented merit system is one of the few defenses that holds up. An undocumented COLA that somehow landed differently across similarly situated employees is not.

Deciding on a COLA With Real 2026 CPI Data

Inflation has cooled from its peak, but it hasn’t disappeared. The Consumer Price Index for All Urban Consumers rose 3.4 percent over the 12 months ending in July 2026, and the core index, which strips out volatile food and energy prices, rose 2.5 percent over the same period, according to the Bureau of Labor Statistics. That’s the number most compensation teams start with when they’re deciding whether, and how much, to adjust pay.

Most employers don’t just hand out a raise equal to the CPI figure. Budgets don’t stretch that far, and a straight pass-through of inflation would eat into whatever’s left for merit pay, promotions, and hiring. That tension shows up clearly in the numbers. WTW’s compensation planning survey of more than 1,500 U.S. organizations found employers expect total salary increase budgets to hold steady around 3.5 percent in 2026, roughly matching what they actually delivered in 2025. Mercer’s data tells a similar story: the average merit increase in 2025 came in at 3.2 percent, just under the 3.3 percent employers had projected months earlier, according to SHRM’s reporting on both surveys. Add in cost-of-living, promotional, and other adjustments, and the total average increase lands around 3.5 percent, well below the CPI-U’s 3.4 to 3.5 percent trend of the past year.

So what does a company actually do with that gap? A few practical approaches show up again and again.

• Set a partial COLA, such as half of trailing CPI, and put the rest of the budget toward merit and market adjustments where they’ll do more for retention.
• Target the COLA at lower-wage and hourly roles first, since inflation eats a bigger share of a smaller paycheck.
• Skip a broad COLA entirely and instead adjust starting pay ranges, which several surveyed employers reported doing to stay competitive without raising every existing salary.
• Reserve part of the budget for retention bonuses or spot awards rather than baking every dollar into base pay permanently.

Whatever the mix, the decision needs to reach payroll cleanly. A company running COLA percentages by department, hourly tier, and location all at once needs its payroll and tax system to apply those rules correctly the first time. Nobody wants to explain a pay stub error the same month they announced a raise.

Pay Transparency Laws Are Changing Fast. Here’s the Current Map.

This is where the two topics collide. A growing number of states now require employers to disclose pay ranges in job postings, and once that range is public, it becomes a lot easier for current employees to notice when their own pay doesn’t line up. According to Jackson Lewis, the list of states with active pay range disclosure requirements has grown steadily and keeps expanding into 2026 and beyond.

Pay transparency and salary history laws change often and vary by locality within some states. This table reflects a snapshot as of mid-2026. Confirm current requirements with counsel or your state labor department before relying on it.

Several of these same states, along with others, also prohibit employers from asking applicants about their prior salary. The logic is straightforward: if pay decisions keep anchoring to what someone made at their last job, historical pay gaps just travel with the employee instead of getting corrected.

The Legal Foundation Behind Pay Equity Reviews

The federal Equal Pay Act has required equal pay for equal work since 1963. The standard isn’t whether two jobs have the same title. It’s whether they require substantially equal skill, effort, and responsibility, and are performed under similar working conditions, per the EEOC. That covers more than base salary. Bonuses, overtime, stock options, and even travel reimbursements all count as compensation under the law.

Employers do have room to pay people differently. The law recognizes four defenses: a seniority system, a merit system, a system that measures earnings by quantity or quality of production, or a differential based on any factor other than sex. Notice what those four things have in common. Each one requires the employer to actually have a system, something written down and applied consistently, not just a manager’s memory of who deserved what. An employee has two years to bring an Equal Pay Act claim, or three years if the violation was willful, so this isn’t a risk that fades quickly.

Layer state pay transparency laws on top of that federal baseline and the exposure compounds. When a range is posted publicly, an underpaid employee doesn’t need a lawyer to spot the gap. They just need to read the job board. That’s part of why more organizations are running pay equity reviews before a complaint forces the issue, not after.

The numbers back that shift up. Nearly three in five U.S. organizations, 58 percent, now conduct pay equity reviews voluntarily, and 83 percent of those that do end up adjusting someone’s compensation as a result, according to SHRM research. Larger employers lead the way. Companies with 5,000 or more employees run these reviews at a 78 percent rate, compared with 48 percent among smaller organizations. Trust follows the same pattern: 91 percent of employees who believe their employer is transparent about pay decisions also trust that people are paid equally for equal work. Among employees who see their employer as opaque about pay, that trust figure drops to 49 percent.

How to Run a Pay Equity Audit Step by Step

An equity audit isn’t a single spreadsheet exercise. It’s a process, and skipping steps is usually where things go wrong.

1. Pull clean, complete compensation data

Start with base pay, bonuses, and any other compensation, along with job title, department, location, tenure, performance rating, and education or certifications. Messy or incomplete HRIS data is the single biggest reason these audits stall before they finish. If job titles are inconsistent across locations, that gets fixed here, before any analysis starts.

2. Group employees doing comparable work

“Equal work” gets defined right here, in practice. Group employees by job function, level, and location, not by title alone. A “Senior Associate” in one department may do work that’s nowhere close to equal to a “Senior Associate” in another. Get this grouping wrong and every number that follows is unreliable.

3. Run the statistical analysis

Within each comparable group, look at pay differences by gender, race, and other protected categories. Smaller employers can often get a useful read from straightforward averages and pay ranges within a group. Larger, more complex workforces usually need regression analysis that controls for legitimate factors like tenure and performance, so the remaining gap reflects something closer to unexplained disparity. Many HR teams bring in outside counsel or a compensation consultant for this step, since it can create privileged, legally protected findings.

4. Separate legitimate factors from unexplained gaps

Not every pay difference is a problem. Someone with 12 years of tenure and consistently strong reviews should earn more than someone hired last quarter. The goal is isolating the portion of any gap that experience, performance, or education doesn’t explain. That’s the part that needs a decision.

5. Remediate, and budget for it honestly

Where a gap is unexplained, most organizations adjust pay upward rather than lowering anyone’s wages, which the Equal Pay Act prohibits as a remedy anyway. If the full correction doesn’t fit this year’s budget, a phased increase over two or three cycles is a reasonable middle ground, as long as it’s documented and on a real timeline. Then fix the process that let the gap form in the first place, whether that’s inconsistent offer negotiation, uneven merit ratings, or a starting-pay range that was never updated.

6. Put it on a repeating schedule

An annual review, or every other year at minimum, catches drift before it becomes a pattern. Pay equity isn’t a project with an end date. It’s a maintenance habit, similar to how a lean HR team keeps compensation data current the same way it keeps time and attendance records current.

Putting COLA and Pay Equity on the Same Calendar

The most effective HR teams don’t treat these as separate projects competing for the same November budget meeting. They sequence them. Run the equity audit first, ideally in the second or third quarter, so any unexplained gaps get corrected before the annual increase cycle locks in. Then decide on the COLA and merit split with a clean baseline, instead of layering a percentage raise on top of pay that was already uneven.

Documentation matters more than most teams expect going in. Keep records of the CPI data used to set a COLA, the criteria used to group employees for the equity review, and the rationale behind every merit and market adjustment. If a state agency or the EEOC ever asks why two employees doing the same job are paid differently, “we have a merit system, and here’s how it works” is a defense. “We’re not sure” is not.

Compensation costs are only one piece of the total rewards conversation, too. Many HR teams weigh a COLA decision against rising benefits costs in the same budget cycle, since health plan premiums often eat into the same pool of dollars that would otherwise fund a raise. Treating pay and benefits as one connected budget, rather than two separate line items, tends to produce decisions that hold up better when questioned.

Frequently Asked Questions

This article is for general informational purposes only and does not constitute legal, tax, or accounting advice. Pay equity and pay transparency rules vary by state and change frequently. Consult an employment attorney or your state labor agency to confirm how these rules apply to your business.

Disclaimer: Any product roadmap or future plans provided herein are for informational purposes only. They do not represent a commitment to deliver any material, code, feature, or functionality. Plans may change without notification. The development, release and timing of any features or functionality described remain at the sole discretion of Netchex, its affiliates, and partners. Netchex does not give legal, tax, or accounting advice. You are responsible for ensuring your use of Netchex product meets your individual business and compliance requirements.

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