Retirement Planning Part 2: Understanding CPF Life

Christopher Tan

In this second part instalment of our 7- parts series on Retirement planning, we dive in deeper into CPF Life and how it aids your finances towards retirement.

You can find the link to the other parts here:

This event was conducted on 5th of May 2016 by Christopher Tan, CEO of Providend.

So, CPF LIFE. Now, to really understand CPF LIFE, we first have to understand the old Minimum Sum Scheme. And I’m sure we all are familiar with the Minimum Sum Scheme. We’ve heard of it before. But Minimum Sum Scheme, this scheme has been made obsolete since this year(2016). But to understand CPF LIFE, we first have to understand how it all started with Minimum Sum.

So, assuming again, this is your lifeline and you are now down here. Now, at about 55 years old, this is a time whereby people can start withdrawing money from CPF. But as long as you are before 55 years old, you need to contribute into CPF and we contribute into the three accounts.

The first account is the Ordinary Account. Currently, as we all know it, it guarantees 2.5% per year. This is the floor rate of your Ordinary Account. It will never go lower than 2.5%. But it is possible that it is higher than 2.5%. It is possible. If the interest rate environment shoots up, if the average of the bank interest rate shoots up, it is possible that your OA gives you higher than 2.5%.

Now, the other two accounts are Special Account and MediSave Account. Currently, it is guaranteed at 4%. Again, I don’t have time to go deeper into this, but this guarantee is not permanent. Any point in time, the government can stop this guarantee. This guarantee is a yearly renewable promotion. Every December, the government will announce whether next year they are going to guarantee at 4%. It is still guaranteed.

Now, I do not know when it is going to stop. Looking at where the returns of the market, looking at the interest rate environment, it doesn’t seem like it’s going to be guaranteed for too long. Because it’s not easy to guarantee 4%.

Now besides this, you know that certain portion of your Special Account and MediSave Account money, you get an extra 1%. Your Ordinary Account also, there are a certain amount that you get an extra 1%. Again, I don’t have time to talk about that. But there are extra 1% given to OA and SA and MA. You just have to know that as a background. But the very basic interest rate is OA 2.5%, SA 4% and MA 4%. These are all currently guaranteed.

So you’ll contribute, contribute, contribute to these three accounts. And at 55 years old, let’s assume that this person’s CPF account, OA, MA, and SA, or rather OA plus SA ignore MA. Because your MediSave Account, you can’t withdraw.

At 55 years old, you’ll keep it inside. It is meant to pay for your medical expenses you know, and it’s meant to use to pay for your insurance premiums such as your MediShield Life, your ElderShield and the rest of the approved insurance. You can use MediSave. You can’t take it out.

So, let’s assume that your OA plus SA at age 55, you have $200,000. It is just a figure. Some of us have more. Some of us have lesser. Doesn’t matter. So now, the rule is that you can withdraw everything after you set aside your Minimum Sum. That’s the rule. So, if you have $200,000 in your CPF at age 55, the current Minimum Sum currently, if Minimum Sum was still to be around, is $161,000.

Let me say that again. If the Minimum Sum was still to be around, it would be $161,000. But the Minimum Sum is now obsolete. But let’s say it is still around, then your Minimum Sum currently would be $161,000.

So, if you take $200,000 minus $161,000, you can now take out $39,000. The $161,000 at 55 years old, a Retirement Account will be opened for you. This $161,000 will be transferred into your RA. You take out $39,000. Got it? Simple? Simple right? You all don’t look very happy.

Now, you are right not to feel happy. In fact, a lot of people are not very happy. Why are they not very happy? Because they save their entire lifetime, finally, they see $200,000 in their CPF account but they can only take out $39,000. So, they are unhappy about it. But most Singaporeans, when they are unhappy, do they say? Most don’t say. Some say.

Some are more verbal, so they say. And usually, when they say it, they get into trouble. So, most of us, we are smarter. We let other people say. We don’t say. But we are unhappy inside. But do you think the government knows that we are unhappy?

They know. Because our government knows everything. And they can tell that we are not happy. And they always try and make us happy right? Just for the fun of it, say yes. Our government always wants to make us happy, right? Okay, you are not very willing, never mind.

So, they try and make us happy. And the way they try to make us happy is by giving us this thing called the Pledging Scheme. And a Pledging Scheme says this. The Pledging Scheme says that if you own a property if you have a property, you can pledge this property up to 50% of the Minimum Sum. In this case, $161,000, 50% means $80,500.

So, the rule says that if you own properties or property, you can use this property to pledge up to 50% or up to $80,500. You want to pledge more than $80,500, you cannot. You want to pledge lesser? No problem.

So now, a lot of people would want to pledge. So, let’s assume that this person pledged $80,500, pledged up to the full amount $80,500. Now, there is no need to set aside the $161,000 in the RA already. All you need to do is to set aside $80,500. Because $80,500 is pledged using properties. You only need to set aside $80,500 inside your Retirement Account.

So, you have got $200,000. You transfer $80,500 into your Retirement Account, the other $80,500, you pledge it using your property and now you can take out more money. So, $200,000 minus $80,500. You can take out more. You can take out $119,500. So now, we are happier. Still not happy. But at least happier.

But we all know the basic principle in life. You enjoy it now, you will suffer later. Usually like that, right? Yeah. Short-term enjoyment, long-term consequences. You enjoy now. You tend to suffer later, usually.

And this is the case for the Minimum Sum. Because if you take out more money now, $119,500, you enjoy now. You will suffer later. Suffer later meaning to say because now you don’t put $161,000 inside your RA, you only put $80,500 in your RA. Later on when the money pays out, and if you remember, our old drawdown age, our old statutory retirement age, how old is that? 62! That was our then statutory retirement age, right? So, at 62 years old, you will withdraw lesser because now you don’t have $161,000 anymore. You have only $80,500. Makes sense?

The second consequence you have to, you may have to suffer, is that if you sell away this house that you pledge after age 55 years old if you sell away this house that you pledge after 55 years old after you sell, you get your sales proceeds. Before you can take the money and put it into your pocket, what must you do? You must put back whatever the amount you have pledged.

So, in this example, you have pledged $80,500. And therefore, after you sell your house, the sales proceeds, assuming that you have no more loan, nothing anymore, so the whole entire sales proceeds belongs to you after you pay your brokerage, your property agent fee and all that before you can even bank this money, you have to transfer $80,500 back into the Retirement Account plus what? Plus interest. What interest? 4% interest because that is the Retirement Account interest.

Now, a lot of people are upset about this. Why? Because “This is my own money. I didn’t borrow. Why must I pay interest?” First and foremost, interest goes into whose pocket? Your own pocket or the Zheng Fu’s (government) pocket? Zheng Fu’s pocket or your pocket? Your own pocket. The interest goes into your Retirement Account.

But the question is, “Why must I pay interest?” So, let me try and explain the rationale behind this whole thing. Why is it that you must pay interest? You see at age 55 years old, you have got $200,000. You are very excited about this $200,000 and you want to take the money already. But the government will come and say, “No, no, no, no. Hang on. Before you take the full $200,000 for yourself, we need to take $161,000 away from you.”.

And then we are upset. We ask, “Why? This is my money. Why must you take the $161,000 away from me?” And the government tells you and me, “The reason why I must take $161,000 away from you is that if I don’t, if I give you the full $200,000 to take out at age 55, some of you, you will take the money and you will go Batam. Some of you will go to Tanjung Pinang. Some of you suddenly got a lot of relatives popped up then you don’t know how to say no because you’re so nice. Then after a while, we have no money left.”

But I know, it doesn’t apply to all of you, right? It only applies… First and foremost, let me ask this question, do you think this kind of thing happens? Yes or no? Yes. I mean we have heard stories. But granted, it’s not a lot. Definitely doesn’t belong to all the people. I mean, it wouldn’t happen to all of you here because all of you here, especially the men, you all look very righteous. You will never go Batam alone, right? You will never go Tanjung Pinang alone, right? You will always go with your spouse.

So it would not happen to you. But it happens to people who are outside. It is possible. It is possible. So, the government has to set aside this $161,000 and keep it there. Just to make sure people don’t squander it away.

But we are unhappy. Why? Because if you take $161,000 putting inside the RA, then I’m left with $39,000. How to survive with $39,000 for the next seven years? Assuming that’s all you have, you know, the money that you have, no cash already. How is $39,000 sufficient for me to last until 62 years old before the first payout start? So unhappy.

So, we look at the government say, “But I have got not enough money!” Then the government asks, “Why not enough money?” And then we say, “It is because you allow me to use my CPF money to buy the house, right? So, all my money is now stuck in the house.” So, the government says, “Let you use money to buy houses also kena complaint. Ok nevermind. Since you say all your monies are now stuck in the house, then I allow you to use your house to pledge up to $80,500. Since you say most of your money stuck there, I let you used your house to pledge up to the $80,500 so you no need to set aside $161,000 anymore. You only need to set aside $80,500. You can withdraw $119,000. You can take out more. In a way, I’m monetising your house. But subsequently, if you sell your house away, now the money comes out from the house already, right? Please put it back in your Retirement Account. Plus the 4% interest that you didn’t earn so that in the RA, you will have an equal amount as the rest of your fellow Singaporeans who have put the $161,000 inside. So that you will also have a good retirement. Got it?”

Now, whether or not you believe this story, this is the intention. The whole idea is to make sure that we have a sufficient amount for retirement. Now, there’s a second reason which I really don’t have time to go and explain. It has got to do with how we calculate the $161,000. But I want to say this, that when we consider the CPF, I didn’t know about this honestly, it was not until when I sat in the panel that I understood that the CPF was never, never, it was never customised for people like you and me. The CPF policies are customised for people who belong to the second quintile in the population.

Second quintile meaning to say that if you break the entire population household income into five parts, so assuming that the entire Singapore population, if we break the household income into five parts. So, this is the first quintile. This is the fifth quintile. The fifth quintile is the people that earn the highest income. The first is the poorest of the poor.

CPF policies are not meant to target the fifth quintile. Of course. These are the people that don’t need the CPF. They have more than enough money to retire. We also don’t target the first quintile. Why? No use. Their CPF no money. No need to have a policy for them. I mean, no need to think about, no need to customise it for them because they won’t benefit very much because they don’t have much money inside their CPF anyway. So, we are targeting the people of the second quintile.

The second quintile group are the people that earn currently about a $1,500 thereabout. Not per person, per family. If two people are working, that means about $750 per person. Kind of a salary. It’s a very low income. And we are really targeting them.

For most of us here, I look around, you belong to the forth and fifth quintile. Correct? Silence means yes. Ok, we may not belong to the forth and fifth, but maybe we belong to the third. We definitely belong to the 2nd. We belong to the third or fourth quintile. Maybe.

So, for those of us who are here. Just take CPF as an additional instrument you can use for your retirement. I wish I have more time to break this into the actual number to show you but I don’t have time. I just want you to understand how CPF works. So far ok?

Now, so let’s say you pledge. Let’s say you follow this and you pledge $80,500 and you put $80,500 into RA. Once the money goes into the RA, there are three things you can use the money for. Firstly, you can do anything. You just leave it in RA and you get a 4% return.

Secondly, you can put it in a fixed deposit, but nobody in their right mind would do so. Because its interest is lower than 4%. But it’s an option but nobody would do so. In fact, if you go to the bank, they wouldn’t take also. Not allowed to take because it’s lower.

Now, the third option is you can actually buy, you can take the RA money and buy an annuity from the insurance company. You can. But you know, the truth is, if you go to any insurance companies today, they don’t have annuities that you can buy using your CPF. Why? Because the returns are lower than CPF LIFE. So, no business. So, therefore, no demand. They stopped selling it. But it is still an option. By law, you can actually do it. If there is a product available, you can take your money and go to the insurance company and buy an annuity.

But most people, most, statistically, most people will just simply leave it in RA to get the 4%. So, if you leave it in RA, at about 62 years old, which used to be our statutory retirement age which I’ve mentioned, your RA, which is now bigger, plus a 4% interest compounded over the seven years, will now start to pay. Based on my estimation, you will get about $700 per month if the Minimum Sum was still to be around. And you will get $700 per month for about 20 years. That’s the old Minimum Sum Scheme.

At the end of 20 years, your entire RA plus interest will be completely depleted. Zero. No money anymore. So, at 82 years old, at 82 years old, if you haven’t died and you have no more money, you better go and die because there is no more money already. Got it so far? This is the old Minimum Sum.

But as we all know, we have a problem. Singaporeans are generally living longer. Our life expectancy is increasing. It’s not that we are any healthier. It is just that because of advanced medical technology and we are more affluent, we got money to pay for the medicine. Medicine prolongs our life.

The second reason is that today, we are all more open for health screening. So, diseases are discovered earlier. Nowadays, it’s very common you hear people get cancer stage 1, stage 0, stage 2, right? Gone are the days whereby straight away stage 4 because people go for health screening. And therefore we live longer.

The average life expectancy for Singaporeans today is estimated to be about 85 years old. And therefore, the old Minimum Sum Scheme is no longer relevant because there is a gap. And that is when CPF LIFE was launched to bridge this gap. CPF LIFE was launched in 2008.

Now, so what is CPF LIFE? Just understand CPF LIFE is really to replace the old Minimum Sum because of the old Minimum Sum no longer being relevant anymore. But what is CPF LIFE? Now, CPF LIFE doesn’t replace the entire Minimum Sum entirely. CPF LIFE basically just tweak the old Minimum Sum a bit and become CPF LIFE.

There are basically two main changes we did to the old Minimum Sum Scheme. Now, the first change is that your RA will be split into RA and AP when you turn 65 years old. This is now the new retirement age. So, this is one of the changes we did. We lengthen or we extend the retirement age from 62 to 65 years old. To 65 years old.

Now, at 65 years old, your RA, the second change is that we will split your RA into two parts. The first part is still called RA. The second part is now called AP which stands for Annuity Premium. Now, the proportion of it, I’ll talk about it in a short while. Right now, don’t bother about it. Just know that it’s split into two parts – RA and AP. The AP portion will be transferred into this Lifelong Income Fund. This Lifelong Income Fund is actually your annuity.

Other than that, everything about the Minimum Sum which I explained remains. Whatever you see in black is still there. We basically only tweak the CPF Minimum Sum. One is the age. Two is the split and we take the AP to buy the Lifelong Income Fund. Are we clear so far? Yes. Alright? No questions? Ok great.

Now, so, how the CPF LIFE works? Now, to really understand how CPF LIFE works, we have to understand the two schemes or rather the two plans. There are currently two plans in CPF LIFE. When we first started CPF LIFE in 2008, there were twelve plans. Then confused like mad. People don’t know how to choose the twelves. Then we reduced to four. Still confused like mad. Then they reduced to two. But as it is right now, it is just two. Just two plans.

The first plan is called the Basic Plan. The second plan is called the Standard Plan. Okay. So, let’s talk about the first one first. Let’s talk about the Basic Plan.

Now, for the Basic Plan, the first plan. The Basic Plan, at age 65 years old. Before I talk about age 65, at age 55 years old, same thing ok? You set aside $80,500. You use a property to pledge up to $80,500 so you can withdraw $119,000. So, this $80,500 will go into your RA. It will grow, grow, grow, grow, grow for about 10 years.

Now based on estimation, by then, your $80,500 will be about $125,000 ten years later, thereabout. So, your $125,000 inside here now, will be split into RA and AP. The split, the proportion is 90% : 10%. 90% remains in RA. 10% of $125,000 which is $12,500 will now be transferred into your Lifelong Income Fund. And that is the Annuity Premium. $12,500. 10%. Are we okay so far?

So, you buy this Lifelong Income Fund and at age 65, 90% of the RA will start to pay. Now, based on the estimate, it will pay about $600 per month because it’s just $80,500 inside. So, it will pay, pay, pay and it is estimated, CPF Board estimate it that at age 90 years old, whatever you have in your RA will be depleted. It will be depleted.

Now, if you haven’t died at age 90 years old, now, no need to go and die. Why? Because we have used $12,500, the10% right? To buy an annuity plan, the Lifelong Income. So, now, this I quote it AP, this 10% that you pay for the annuity will start to pay. It will pay about the same, $600 per month. And it will pay and pay and pay. Pay until when? Pay until you go upstairs. Means you die. So, that is the first plan. The Basic Plan. Are we all clear with the Basic Plan?

Yes? Give me a nod if you are okay. Okay. Thank you. Okay.

Now, the second plan is called the Standard Plan. Now, under the Standard Plan, at age 65, there is no split. 100% of your RA plus interest, everything will go into this Lifelong Income Fund. 100% of it.

And then at age 65, it will start to pay. Estimated to pay about $670 per month. More than the basic plan but still lesser than the old Minimum Sum of $700 per month. And it will pay and pay and pay and pay. And it will pay until you die. So, that is the Standard Plan.

In the near two decades that we have worked with retirees, we understand one thing: Reliability of income is more important than return on investment at this phase of your life. As such, we have developed a proprietary methodology called RetireWell®, that can help you draw down strategically from your retirement nest egg.

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• Part 1: Drawing Down Retirement Money
 Part 2: Offering Retirees Security and Peace of Mind
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• Part 4: Counting on low-cost Index Funds
• Part 5: Investment Philosophy for a Retiree Client
• Part 6: Ensuring a ‘Safe Retirement Income Floor’
• Part 7: Remain Invested Over the Long Haul
• Part 8: Purpose-Driven Retirement Planning
• Part 9: A Tale of Two Retirees And Their Fortunes
• Part 10: Stock Markets Always Rise Over The Long Term
• Part 11: Retirement – It’s About The Kind Of Life You Want To Lead

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