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09 Nov 2020
This article was written in collaboration with CPF Board. All views expressed in this article are the independent opinion of DollarsAndSense.sg based on our research. DollarsAndSense.sg is not liable for any financial losses that may arise from any transactions and readers are encouraged to do their own due diligence. You can view our full editorial policy here.
If you have found 2020 to be a challenging year, you are not alone. Across the world, the COVID-19 pandemic has not only affected millions of lives, but also adversely impacted the global economy.
Singapore has not been spared. According to the Ministry of Manpower, there are only 0.57 job vacancies available for every unemployed person. The Straits Times Index (STI), which tracks the performance of the 30 strongest stocks listed on the Singapore Exchange (SGX), is also down 23% since the start of this year (as of 11 November 2020). On a personal level, many of us had to adjust to working-from-home and home-based learning, and it has not been easy.
Given the more immediate concerns in 2020, it may be convenient to postpone planning for the future. We may reason that thinking about tomorrow’s problem isn’t helpful if we can’t solve today’s issues first. While this may apply to some things in our lives, such as putting off the purchase of a new car or property, there are other areas that we should not put on hold even during economic uncertainty.
For example, none of us would want to disrupt our kids’ education because of a recession. As far as possible, we would want to ensure continuity in their education even if we are facing some financial constraint, because we understand that any disruption may do more harm than good.
Likewise, we want to continue planning towards our future through both good and bad times. This is because our retirement plan is a long-term goal and we should minimise disruption to it. What we choose to do now will affect our future greatly.
A common misconception that people have is that retirement planning is something that we only need to think about when we are older. However, the trick to a successful retirement plan is to utilise the power of compound interest as much as we can. And this is best done when we start young.
For example, if we set aside $10,000 in retirement savings at age 25 and retire at age 65, we will have 40 years to utilise the power of compound interest. At an interest rate of 4.0% p.a., our retirement savings will grow to become $48,010 by age 65!
But if we only start saving towards our retirement at age 55, we will need to set aside $32,434 to achieve the same $48,010 by age 65, assuming the interest rate remains the same at 4.0%.
This also means we need to save three times more to get the same retirement amount if we start 30 years later!
The good news for Singapore citizens and PRs is that even during a recession, we will still be contributing to our retirement savings when we are working. This is because 20% of our salary each month automatically goes to our CPF accounts. Also, our employers contribute a further 17%. This percentage is lower for those above the age of 55.
In other words, the design of the CPF system allows Singaporeans and PRs to start building up their retirement savings from their first paycheque, without having to make a conscious effort.
Our CPF savings also grows at a risk-free base interest rate of between 2.5% [Ordinary Account (OA)] to 4.0% p.a. (Special, MediSave and Retirement Accounts). In addition, the first $60,000 of our combined CPF balances earns an additional 1% p.a. interest (capped at $20,000 for OA), while those above 55 can earn an additional 2% p.a. on the first $30,000, and 1% p.a. on the next $30,000.
For example, a 30-year old who contributes $1,000 a month to his CPF Ordinary Account (OA) will earn a minimum of 2.5% p.a. By age 55 – 25 years later – the $1,000 contribution would have grown into $1,854 based on a return of 2.5% p.a. (though the actual return would be higher due to the extra 1% p.a. interest for the first $60,000 of combined CPF balances). Contributing to our CPF Special Account (SA) will yield even better returns.
If we wish to earn a higher risk-free return, a fool-proof way is to transfer funds from our OA to our SA. By doing so, we can earn 4.0% p.a. instead of 2.5% p.a.
For example, if we have $10,000 in our OA today, this will grow to $18,540 after 25 years (based on 2.5% p.a.). However, if we transfer the $10,000 to our SA, the funds will grow to $26,658 (based on 4.0% p.a.) after 25 years, earning us an additional $8,118.
You can see the stark difference in the graph below:
To be clear, transferring funds from your OA to your SA isn’t without trade-offs. Once the funds are transferred to our SA, the decision is irreversible, and we cannot transfer it back to our OA. This also means that we cannot utilise the money for OA-eligible payments such as our home mortgage.
However, if the goal is to plan towards a more comfortable retirement without needing to take on any investment risk, then the SA is the perfect place to grow our retirement savings safely, during both good and bad times.
As a Singaporean, if we want to build up our retirement savings without taking on investment risk, the Retirement Sum Topping-Up Scheme (RSTU) is one of the most powerful tools we can utilise as a CPF member. Doing so automatically allows us to earn a risk-free rate of up to 6% p.a. to put aside for our retirement.
Through RSTU, we can make cash top-ups to our own and/or our loved one’s SA up to the current Full Retirement Sum ($181,000 as of 2020). If we or our recipients are above 55, we can do a top-up to our Retirement Account (RA), up to the current Enhanced Retirement Sum ($271,500 as of 2020).
To put things into perspective, $10,000 today will become $21,911 in retirement savings after 20 years!
In addition, we can also enjoy tax relief of up to $7,000 per year if we are topping up for ourselves, and an additional $7,000 per year if we are topping up for our loved ones’ SA or RA.
For members above age 55, our CPF RA is a great place to park and continue growing our retirement savings. This is particularly true during this volatile period, when investors in the financial markets have to face a higher level of uncertainty if they invest in equities, or need to accept low interest rates if they choose to invest in fixed income instruments such as corporate bonds.
For example, a 55-year-old male (as of 2020) who wishes to retire at age 65 can choose to commence his CPF LIFE payouts in 10 years. If he has the Full Retirement Sum (FRS) of $181,000 (as of 2020) in his RA today, he will receive an estimated payout of between $1,411 to $1,556 each month under the Standard Plan from age 65 onwards.
Let’s assume he has $50,000 in stocks and bonds that are meant for his retirement. If he is not confident of investing in the financial markets in the next few years but would like to continue growing the money for his retirement, a secure and risk-free way of doing so would be to make a $50,000 top-up to his RA today.
By doing so, he will be able to increase his monthly CPF LIFE payout at age 65 to $1,765 – $1,950 a month instead.
Whether you are a fresh graduate who has just entered the workforce or an older worker who intends to retire in a few years, growing your retirement savings can still be done safely even during a recession. As CPF members, we can be assured that our CPF savings will continue to compound at a safe, reasonable rate even when the financial markets are in distress.
Learn more about how you can kickstart your retirement plan and maximise your CPF savings here.