Is CPF broken?

As election day approaches closer, a topic that always gets media publicity (not the mainstream media) is CPF.

Most parties would generally have a plan to fix and make CPF better.

But first, we need to understand how CPF works currently.

Disclaimer: This is not political. It is my unbias, honest opinion on CPF. If there are misstatement of facts, it is an honest mistake and not intended to cause any political, social or public harm or unrest.

How Does CPF Work Currently?

CPF is a mandatory social security scheme that enables Singaporeans or permanent residents to set aside funds for retirement. Since then, the CPF scheme extends to cover housing, education, healthcare and investment needs.

In short, it tries to help us prepare financially for the big things in life.

Your CPF is divided into three accounts:

  • Ordinary Account (OA) – used for housing, education, investment or retirement
  • Special Account (SA) – specifically for retirement
  • Medisave Account (MA) – specifically for paying hospitalization and health insurance with a lot of constraints and limitation

IIf you are employed, CPF mandates companies to top up an additional per cent (17% if you are below age 55) on top of 20% of your salary (up to the first $6,000).

For the self-employed, you may contribute to your CPF for tax relief. You are, however, mandated to contribute to your Medisave Account.

Throughout your working years, you will contribute to CPF and earn special interests rate set by the CPF board.

Once you have reached 55, you may withdraw all up to a specified maximum amount.

You will still have to set aside a minimum amount known as a basic retirement sum or full retirement sum. That amount will become your annuity (CPF life) which will give you fixed payouts from age 65 until your death.

Indeed, it is complicated – rules on contribution, allocation, usage, withdrawal, interests etc.

No wonder we are always confused about it.

Let us take a closer look at the proposals to make CPF better.

Higher Withdrawals

You can only withdraw a maximum of $5,000 if your CPF retirement account has less than the *full retirement sum.

*Or the basic retirement sum if you have a property whose lease is not expiring before you reach 95 years old.

$5,000 in today’s term is not a lot. And the retiree has to wait until age 65 to receive his or her first payout from CPF life.

Here are the proposals on improving CPF from a few parties:

  • Progress Singapore Party – increase withdrawal cap to $50,000 at age 55
  • Red Dot United – withdraw everything at retirement age
  • Singapore Democratic Party – withdraw everything at age 55 – abolish retirement sum scheme

People should have the freedom to do what they want with their money. I understand that.

A retirement plan should cover you financially until your death.

That is why people came up with the 4% rule to guide you on how much you can withdraw to last for your entire retirement. There is a risk of depleting your source of income during retirement especially if you live longer than planned.

The government created CPF life for that purpose of eliminating that risk – to provide income that will last you until death.

Longevity Risk And Annuities

With life expectancy on the rise, retirees face a new risk – longevity risk which is the possibility of your retirement funds running out before you die.

An annuity is a contract between you and an insurance company in which you will receive regular disbursements for a fixed term in exchange for a lump sum payment.

CPF life is an annuity. It will pay a regular sum to you monthly until your death in exchange for the lump sum in your CPF (the full retirement sum).

Sure, the government can please people and allow them to withdraw more (or all) of their CPF.

If they have a retirement plan and know how to extend their savings to last their retirement, then all is well.

But if they spent all their money and fortunately (or unfortunately) live much longer than they anticipated, they might face financial issues. They may be forced to go back to work to support themselves.

Whether the government should continue to be our nanny and help decide what is best for us – I will not comment on that.

My point here is: don’t focus on the short term (withdrawing all your monies) but on the longer-term – how to make your money last through retirement.

Better Returns on CPF

A few other proposals concerning CPF are on improving the returns in our CPF.

  • Worker’s party – introduce special dividends paid out to the CPF Special Account from the Government Investment Corporation (GIC)
  • Singapore People’s Party – make government investment returns transparent. Distribute additional returns as a bonus.
  • Red Dot United – provide better interest rates for incentivizing staggered withdrawals

In theory, I support these proposals. However, I doubt its feasibility.

High Interest Rates Must Come From Somewhere

Currently, CPF OA returns 2.5% interest risk-free while CPF SA returns 4% interest risk-free.

While bank interest rates have been dropping to near zero, CPF OA has been maintaining 2.5%. This big spread is rather generous of them. For the CPF SA rates, on the other hand, have been kept at 4% while ten-year government securities have been below 1%.

The extra interest of 2.5% and 4% have to come from somewhere, and it cannot be achieved by investing in safer securities. Therefore, GIC must invest in riskier securities to be able to provide a 2.5% and 4% interest.

The problem with riskier securities is that the returns will vary and there is a risk of losing your capital. Any additional returns have to be kept by them because these additional returns act as buffers to maintain your initial capital as well as paying out interest when times are bad.

There will be trade-offs if we push for a bonus dividend. Either we have to accept a lower fixed interest rate, a variable interest rate or allow possible losses of capital.

However, I do feel that we should have more transparency on the performance.

Using CPF As An Emergency Fund

There are also proposals on making CPF money more accessible:

  • Singapore People’s Party – allow partial withdrawal based on compassionate grounds – case by case basis
  • Red Dot United – enable people to borrow from their CPF during uncertain times.

I think some flexibility is better as personal situations vary from individual to individual. If you cannot even survive for the next few months, why also plan for retirement?

However, instead of always relying on CPF as a fallback, we should also address this problem with other means.

There are times when you face a financial crisis because of a lack of preparation or financial literacy. Maybe you did not create an emergency fund, did not buy enough insurance or took on too many debts too aggressively. Then, the solution is to improve your financial literacy, build good money habits and make a plan.

If you face a financial crisis because of systematic poverty – then it should be addressed by reducing inequality. Policy makers should strive to create policies such as comprehensive medical insurance for all, raising the minimum wage, a universal basic income (freedom dividend?) or more safety nets etc. Or they should remove of policies that increase the income gap – tax relief etc.

Ideally, CPF should be mainly used for retirement. It should not be an emergency fund. Whenever possible.

CPF for FIRE

FIRE here means Financial Independence Retire Early (FIRE). It is a popular movement where one pursues early retirement by achieving financial independence via frugal living and investing. 

There was a proposal to allow us to retire earlier at age 60.

  • Worker’s Party – lower CPF payout age eligibility and CPF life payout age to 60

For the government’s standpoint, encouraging people to retire early is not in its best interest, especially for an ageing population where the working class is shrinking with time.

Helping early retirement places more burden on the working class to support an ever-increasing group of retirees. Neither is it good for GDP – you need people to continue working to produce goods and services.

Another point is how an annuity works. There will be trade-offs when you increase the duration of the annuity payout, i.e. start the payouts at an earlier age. 

You will have to accumulate more, e.g. increase the full retirement sum amount, and your payout amounts will be much lesser. It is a policy which benefits the wealthier or financial savvy ones. 

For the average person, it means your full retirement sum will be further increased, and your CPF life payouts will further decrease.

Conclusion

CPF elicits an emotional response from the people. That may be the reason why they bring it up from time to time.

The main advantage (and the main disadvantage) of CPF is its inflexibility. It forces you to regularly contribute to your retirement from an early age with severe restrictions on its usage and withdrawal, which is possibly the best way to plan for retirement.

However, it is by no means perfect. Its inflexibility also causes CPF to be useless in specific emergencies or significant life changes. Neither is CPF a silver bullet that solves all retirement problems.

The other possible solution to retirement is increasing financial literacy. That is where we try our best to share information on how to prepare for retirement.

Nevertheless, I do believe there are many other issues on inequality, accountability, free speech and transparency that politicians should bring up. And CPF should not be the top of the list.

What is essential is political awareness and participation from the people, especially the young.

The best thing we could do is to educate ourselves and go out and vote. Every vote matters.

So, make your vote count.

Author: Fatty's Finance

Finance is like health. It becomes an issue if it is not well maintained. I want to help you get back in shape!

8 thoughts

  1. I hope that financial literacy (eg. What is money; nominal, actual and compound interest; investments and the type of risks involved, ant etc.) can be part of upper Secondary School subjects, and CPF system should be one of the important topics.

    I tried to talk to my children about financial matters but lost them along the way. I am not a professional in the financial sector, and could have failed to make the subject sound interesting to them.

    However, if schools can provide them with the knowledge, I believe that it will provide them a head start in life. After all, Singapore is working hard to maintain as a financial hub in the region.

    This will also potentially provide the opportunity between parents and children to have a good discussion or debate on money matters.

    1. Hi Terence,

      Thank you for your comment. I totally agree we should start financial literacy at a young age and it should be taught in schools.

      My kids currently are too young to learn the concept of money. But I at least try to teach them the concept of trade-offs: If you choose to buy this item, you cannot buy two of that item etc.

      The US and other developed countries are teaching financial literacy in schools. So it should be a matter of time that Singapore starts teaching it in schools too.

  2. I think you are not telling the truth.
    Just on the higher interest for cpf account.
    The GICs, TH holding having investment return of average 16% since inception.
    Why cant they pay 6% or 7% interest to cpf account holders?
    Even malaysia MPF can pay more than 6% per year.

    1. Hi Benson,

      Thank you for your feedback. I do not have any insider information on Temasek Holdings nor GIC, so my sources are from those which are publicly available:

      – GICs investment returns were at an annualised rate of 3.4% above the global rate of inflation on 31 March 2019. https://www.gic.com.sg/investments/performance/
      – Temasek holdings investment returns are much higher 16% since inception https://www.temasek.com.sg/en/our-financials/portfolio-performance#tabbed_content-tabbed_content_item0

      However, Temasek Holdings does not manage CPF funds. CPF monies are used to purchase Special Singapore Government Securities (SSGS). The proceeds from SSGS issuance are then invested by GIC along with other proceeds from other government bonds or surpluses. So, CPF interests are indirectly influenced by GIC’s performance (3.4% annualised) but should be independent of TH’s performance.

      The CPF monies are used to buy bonds SSGS which are considered risk-free investments since it is guaranteed by the Singapore Government (equivalent to buying US treasuries).

      So in a sense, 4%-5% or even 2.5%-3.5% risk-free rate, in my opinion, is already pretty high. There is hardly any triple-A credit rating bonds that pay such a high rate. You cannot compare to high yield bonds that pay 5-10% because those are inherently riskier. It is not a fair comparison

      You can read more detail about CPF monies at https://www.mof.gov.sg/policies/our-nation%27s-reserves/Section-IV-Is-our-CPF-money-safe-Can-the-Government-pay-all-its-debt-obligations

      I agree with you that they could increase the rate to 6%-7%. But my point in the article is that there will be trade-offs involved. A higher guaranteed rate will pressure GIC to take more risks to increase their returns to make interest payments for SSGS. The higher risk might cause a more significant loss and the government might be forced to dip into the reserves to pay out the SSGS interests payments. However, my feeling is that the government would rather spend the national reserves on job creation, infrastructure or stimulus programs rather than pay out higher interest to CPF. They can choose to, but they rather focus on spending on the economy.

      I do not know much about Malaysia’s EPF but it is quite impressive that they consistently pay out >6% dividends for the past few years. Malaysia’s provident fund might be slightly different as the proceeds are directly invested in equities or riskier investments. Whereas Singapore’s provident fund is used to purchase bonds (which is a less risky investment). Or maybe, Malaysia’s fund manager is just much better than Singapore’s.

  3. Hi

    You did not indicate what happen when a person died and what his balance plus interest in the CPF Life will happen.

    Personally, if the declared profit from any institution who invest for any Government using any funds from the Government, is not high or not even the basic of what the Government declared for their citizens, why don’t they look for better performance institution?

    Personal Financial Literacy is important. But if individual with these skills preferred to manage their own retirement saving in CPF, what choices do they have? Btw I mean to withdraw and manage on their own.

    1. Hi Quinn,

      When a person dies, whatever CPF Life balance premium or interest will be transferred to his or her beneficiaries. https://www.cpf.gov.sg/members/FAQ/schemes/retirement/cpf-life/FAQDetails?category=retirement&group=CPF+LIFE&ajfaqid=2186428&folderid=11684

      Do you mean that the Government should open up for private fund companies to manage funds from the government to maximize returns? I believe that the government will not go that route due to national security reasons and a lot of that information is sensitive – they would not want other countries, private companies or even their own domestic citizens to know the details of the funds. Honestly, I do not know too much about sovereign wealth funds other than they are not very transparent.

      For those who prefer to manage their own retirement savings, they could always invest their cash and create their own retirement fund in addition to what they have in CPF. They could also use CPFIS to use their money in CPF to invest in other assets such as bonds, fixed deposits, insurance products, unit trusts, and gold. https://www.cpf.gov.sg/Members/BPTopics/bp-topics/cpfis. When they reach 55 years old, and if they have more than the full retirement sum, they could withdraw an amount equivalent to the total amount in CPF Retirement Account – Full retirement sum.

  4. Why not paying our cpf partially after 55 than start 60 every two years 10% or 20% at least we can taste a bit our hard earned money

    1. Hi Hussein,

      Yes, that is another possible suggestion too. However, our government is like a nanny state – too protective of our citizens.

      The government is afraid that if they allow partial withdrawal of their CPF, the people who run out of money in retirement will hold the government responsible. CPF Life will ensure that their money never runs out.

      The more prudent or financial savy ones will continue to keep the money invested and withdrawing at a safe rate ~ < 4% yearly to ensure that their money doesn't run out. The key is always keep your money invested, even after you have retired to preserve your capital.

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