$1M By The Time You Retire: Part 2
When money realizes that it is in good hands, it wants to stay and multiply in those hands.
Part 1 of our series highlighted the importance of saving and that saving early really does help in allowing the interest to compound over time.
In the second part of our series, we’ll throw a spotlight on CPF — the compulsory savings and pension plan for working Singaporeans and permanent residents.
You may have heard of 1M65 — a local movement where individuals aim to accumulate S$1 million by the age of 65. The idea behind 1M65 is by keeping your money invested in CPF and allowing it to compound over your working lifetime, you can achieve the target goal of $1M by age 65.
Interest Rates of CPF
At the moment, the rates in the Ordinary Account (OA) is 2.5%, while the Special Account (SA) is at 4% (with bonus interest up to 6% for the first $60,000 in combined balances). The Medisave account earns 4% as well. While the CPF rates have not changed for many years, they are reviewed quarterly by the CPF board and are based on several of factors. The OA’s interest rate is now calculated by taking the 3-month average of major local banks (0.09%, Aug-Oct 2021) with a minimum floor rate of 2.5%; while the SA’s interest rate is based on the 12-month average yield of 10-year Singapore Government Securities (10YSGS, 2.34% from Nov 2020 - Oct 2021) with an added 1%, with a minimum floor rate of 4%. As you can see with the current low interest rate environment, both OA and SA operate based on the minimum floor value — however, how long the government plans to keep that minimum rate is anyone’s guess.
Does 1M65 Work For You?
Mathematically, you can achieve your goal with the following conditions. If you are able to accumulate S$130,000 in total through your SA and MA account by the age of 30, and your spouse also does the same, you’ll be able to accumulate approximately $513k each in 35 years with no further contributions required — allowing a husband and wife unit to have a tidy sum of a little more than $1M in their CPF accounts at age 65.
With further contributions you’ll be able to hit that amount in a shorter period of time, but there are other several potential issues — What happens if you’re unable to accumulate the initial amount by 30? If you’re not married or don’t have a spouse? If you discovered 1M65 later in life? Another issue with accumulation via CPF is that transfers and contributions to your Special and Medisave Account are one-way only. This means you cannot withdraw the money before age 55 and that your savings cannot be used for short-term emergency funding needs.
What happens if the interest rates change?
Many of us also forget that the interest rates for CPF are actually variable and could change in the future (if for example, the government decided to remove the minimum floor rate). In the event it does change, there would be profound implications on this saving strategy because the entire plan for achieving $1 Million relies on the interest rates remaining the same. The chart below shows the effects that a 0.5% change in rates can have on your savings. Every decline of 0.5% from the assumed 4% rate can mean a nearly $200,000 difference in ending amounts.
Basic Healthcare Sum (BHS) and Full Retirement Sum (FRS)
Another important point to consider is the Basic Healthcare Sum (BHS) and Full Retirement Sum (FRS) that are also subject to change and are adjusted yearly. The minimums for the BHS and FRS are currently set at $66,000 and $181,000 respectively. In the scenario that you do manage to accumulate $513k each, after funding your BHS and FRS, you would only have approximately $266k left each that can be withdrawn from your CPF account. $1M via CPF isn’t as ideal as initially thought.
The CPF is a good scheme that tries to mitigate the issue of retirement for our ageing population as broadly as possible. However, it has gone through many iterations, some good and maybe some less than ideal as the government balances problems on multiple fronts — longevity risk, the ageing population, and citizens with insufficient savings for retirement.
Key changes that the CPF has gone through:
In its original iteration in 1955, a member could withdraw everything at 55 years of age.
1977 — The Special Account was created for retirement purposes.
1981 — CPF was liberalised to allow the funds to be used for housing.
1984 — The Medisave Account was created to allow members to use the funds for medical bills.
1986 — CPF funds were allowed to be used for specific types of investments.
1987 — The minimum sum scheme was introduced where CPF savings were disbursed over a 20 year period.
1990 — Medishield health insurance funded by CPF funds was introduced to provide a form of universal healthcare to all members.
2014 — The CPF Life annuity plan was introduced which improved on the minimum sum scheme.
There likely will be many more changes in the future as our world changes and evolves. CPF can help you with saving for the future, however, it is too blunt an instrument to be fine-tuned to meet the needs of every individual. After all, we all have different visions and goals of what we would like to achieve with our money.
If you’re not sure about what to do next or where to start or looking for an objective evaluation of your situation, you’re more than welcome to contact us here for an exploratory 30 min pre-discovery session.
Stay tuned for the final part of our series coming out in the following week!
