5 Jul 2024
SOURCE: Christopher Tan (Providend)
Whenever we talk about retirement planning, the focus has almost always been on accumulating towards retirement. Very little has been spoken about withdrawing during retirement.
But planning for retirees on how they can spend in this phase of their lives is extremely important and arguably more complex than accumulation. This is because some of the risks faced in retirement are unique to retirees and, if they occur, can disrupt their lifestyle. These risks are:
- Longevity risk – the chance of outliving one’s retirement savings.
- Inflation risk – the prospect of reduced purchasing power over time.
- Healthcare risk – the risk of not being able to pay for medical expenses.
- Investment risk – the possibility of market volatility affecting one’s investments and income.
- Spending risk – the risk of overspending or underspending during their retirement years.
In order to mitigate the above risks and ensure that you have a reliable source of income in retirement, the following steps should be considered:
- Craft a good spending plan by first listing down all your assets which can give you an income.
- Based on the retirement lifestyle you wish to have, carefully estimate your expenses at different stages in retirement.
- From these estimated expenses, decide what amount is absolutely necessary (essential) with the remaining amount being good to have (discretionary).
- The next step, which is the most complex, is to match suitable assets/instruments with the types of expenses needed at various stages in retirement.
Matching suitable assets/instruments with your expenses
Discretionary
For discretionary spending, you can use asset classes that are riskier but with higher expected returns, such as equities. But at appropriate times throughout your retiring years, you need to gradually convert portions of these investments to liquid cash or cash-like instruments for discretionary expenses that are needed in the immediate five years of your retirement.
When investing, consider your appetite for risk and take the time to learn more about how your investment work.
Cash savings, fixed deposits, T-bills, Singapore Government Securities, Singapore Savings Bonds (SSBs), and short-term single premium endowments are suitable instruments to convert into.
Essential
To fund essential expenses throughout retirement, assets that are safe and stable regardless of financial market volatility as well as able to mitigate longevity risk should be used.
CPF LIFE, private annuities, retirement income insurance plans, and investment grade bonds are examples of such assets. But for bonds, one needs to have large amount of capital to meaningfully use them to generate sufficient income. And since not everyone is able to access to or have the knowledge to know how to invest in them, it may be more practical for most to use CPF LIFE, and insurance-based financial instruments to fund essential expenses.
This article will focus on how you can fund your essential expenses and mitigate the five risks using CPF LIFE.
It is my opinion that every retiree should have annuities in their portfolio. This is because, there are not many instruments that can mitigate inflation, investment, over or under spending and most importantly, longevity risk. This makes annuities ideal for funding essential expenses.
It is also my opinion that CPF LIFE is the best annuity in Singapore. But before I show why I feel this way, let us first understand how CPF LIFE works.
How CPF LIFE works
In your working years, your employer and you contribute to your respective CPF accounts and the government gives you risk-free interest to help you grow your CPF savings.
When you reach 55 years old, your accumulated CPF savings, first from your SA followed by your OA up to the Full Retirement Sum (FRS) will be transferred to your newly created Retirement Account (RA). This amount of money will continue to earn interest and as early as age 65, you can decide which CPF LIFE plans to choose from depending on your needs.
Table 1 below shows some differences between the Basic, Standard and Escalating Plans.
Table 1: Estimated payouts using CPF LIFE Estimator based on a 55-year-old male in 2024 with a Full Retirement Sum of $205,800
There are 3 things to note about CPF LIFE:
1) The Split Between Amounts in RA and Annuity Pool
At age 65, if you choose the Basic Plan, CPFB will transfer about 10%-20% of the savings in your RA to the annuity pool. This amount is known as the “Annuity Premium” which currently earns 4%* p.a. interest. The remaining savings in your RA will be streamed out immediately until you are 90 years old. After which, the monthly payouts will come from the annuity pool.
If we decide to choose the Standard or Escalating Plan instead, 100% of the savings in your RA will be moved to the annuity pool and you will receive monthly payouts from the annuity pool.
CPF LIFE functions on risk pooling, where the interest accumulated from the CPF LIFE premiums of all CPF LIFE members is pooled. In addition, there is a capital protection feature which means that any unused premiums will be refunded to the deceased member’s beneficiaries.
* Based on the interest rate floor of 4% per annum
2) CPF LIFE Payouts
When you are receiving your payouts from the annuity pool, regardless of the CPF LIFE plan that you are in, the interest earned on your annuity premium is shared amongst all CPF members to form part of your monthly payouts. The other part of your monthly payouts comes from your annuity premium.
From Table 1 above, you can see that the payout from Standard Plan is higher than the Basic Plan. This is because your annuity premium is higher for the Standard Plan. You will also notice that as you get older, the payouts from the Basic Plan decreases. This is because as most of your earlier payouts were coming from your RA, your RA + LIFE balances will fall below $60,000 and because you will be earning lesser extra interest on the first $60,000, the payouts amount falls.
As for the Escalating Plan, the initial payout is about 20% lower than the Standard Plan but increases by about 2% p.a. This is one of the ways CPF LIFE can mitigate inflation risk. As such, the Escalating Plan is suitable for members who can accept a lower initial payout but would like to hedge against rising cost of living.
Another way CPFB mitigates inflation risk is by adjusting the Retirement Sums each year according to life expectancy, standard of living and long-term inflation. As the retirement sum increases, CPF LIFE payouts also increase.
The final point to note here is that while you can start receiving payouts as early as age 65 (the latest being age 70), if you choose to delay receiving them, for every year that you delay, your payout amount increases by about 7%.
3) What happens to unused CPF savings in your RA and annuity pool upon death?
Except for your unused interest earned on your annuity premium, other unused CPF savings are returned to your beneficiaries.
For the unused interest, it remains in the annuity pool and is used to ensure that remaining CPF LIFE members can continue to get monthly payouts for as long as they live.
Even if you live beyond your own expected life expectancy and your premiums are exhausted, your payouts are still guaranteed for life. This is thanks to other members’ interests being pooled. This is how CPF LIFE can mitigate longevity risk for CPF members. So, in a sense, CPF LIFE is a collective effort that includes both member and government support.
For the Standard and Escalating Plans, since 100% of your RA is transferred to the annuity pool, the absolute amount of the interest earned on the annuity premium will be more than that of the Basic Plan. This also means that upon demise, the absolute amount of unused interest earned on the annuity premium will be larger than that of the Basic Plan.
Some may question whether they will “lose out” in this case? Well, if you live a long life, you may actually be the one who will stand to gain. The truth is no one knows how long they will live. But I will also share more about why bequest should not be the factor to consider for your choice of CPF LIFE plan later in the article.
Are there other better options to CPF LIFE?
From 2025, the top-up limit for RA, also known as the Enhanced Retirement Sum (ERS) will increase from three times of the Basic Retirement Sum (BRS) to four times. So, should you top-up your RA up to the new ERS or should you buy private annuities or insurance-based Retirement Income Plans instead? Is CPF LIFE really the best annuity in Singapore?
To help you make this decision, I compared CPF LIFE with three popular retirement income insurance plans in the market (see Table 2). Given that all insurers have to use the same projection rates on their benefit illustrations, the results wouldn’t deviate too much except for the different frills offered by different product providers.
For comparison, I used the CPF LIFE Standard Plan and the Full Retirement Sum (FRS) for 2025. For the private retirement income insurance plans, I used the higher returns assumption of 4.25% p.a. Even with this higher returns assumption, you can see quite clearly that CPF LIFE is superior. Although the private insurance plan’s bequest amount is higher, the monthly payout is lower. Having said this, CPF LIFE’s effective interest is still higher than the private insurance plans in almost all occasions after considering payouts and bequests.
But an annuity is an insurance plan and not an investment plan. It would be foolish to buy an annuity plan based on its bequest amount or effective returns! Your decision should be based on how much payout you need to fund your expenses in your lifetime. Even when we compare the annual payout per dollar premium, CPF LIFE trounced all the other private Retirement Income Plans. The one advantage of private insurance plans over CPF LIFE is that you can surrender the policy if you need to and get some money back (typically with a penalty incurred) whereas you cannot do the same with CPF LIFE. But all things considered, CPF LIFE is without doubt the best annuity in Singapore.
So, if you are financially able to, my suggestion is to first top-up your RA up to the amount (subject to ERS limit) that will give you the CPF LIFE monthly payout you need to fund the essential expenses in your spending plan. If the maximum monthly payout from CPF LIFE is still insufficient, you can use other suitable instruments such as private Retirement Income Insurance Plans to supplement it.
If you do not want all your cash to be locked up in your CPF, just set aside your cohort’s FRS to “buy” CPF LIFE and supplement the rest of your essential expenses with other instruments such as retirement income insurance plans. Although you have to accept a possibly lower monthly payout or pay a higher premium to get the payout you need, you do get some flexibility to cash out and enjoy some liquid cash by surrendering your insurance policy.
Alternatively, you can buy private annuities offering equivalent benefits to CPF LIFE and apply to be exempted from setting aside the retirement sum and withdraw all your CPF retirement savings. However, as demonstrated through the comparison at Table 2, it is quite difficult to find policies that are better than CPF LIFE these days.
Table 2: Comparison between CPF LIFE and Retirement Income Plans
* A credit rating shows how reliable an institution is at repaying borrowed money. AAA is better than A+ because it indicates the highest level of trustworthiness and financial stability.
The five risks that retirees face during retirement are very real. With CPF LIFE being Singapore’s best annuity plan backed by the Singapore government and with your cash savings in MediSave Account (MA) as the cornerstone of your retirement plan, you can mitigate longevity, inflation, healthcare, investment, and spending risk. This will give you a reliable income stream in your golden years to enable your life goals and have a peace of mind.
Christopher Tan is CEO, Providend Ltd, Southeast Asia's first fee-only comprehensive wealth advisory firm. He can be contacted at chris_tan@providend.com
The information provided in this article is accurate as of the date of publication.
