This is a follow up on the earlier post on CPF Withdrawal and Minimum Sum scheme and will explore a couple of issues on CPF Life.
I will not be repeating everything from the handbook but will try to extract some information from them and explain what are some of the possible misunderstandings of the scheme. This post should be read in conjunction with guide B.
Q: What happens when I join? (page 4 of guide B)
A: When you join CPF LIFE, all your retirement account (RA) savings will be used for your LIFE plan. Part or all of the RA savings set aside will be deducted to pay a premium for an annuity (called annuity premium) while the rest of your savings will remain in your RA. The annuity payout will start at various ages, depending on the LIFE plan that you have chosen.
The table in the booklet shows the annuity start age to be 90, 80, draw down age (DDA) and draw down age for the basic, balance, plus and income plan respectively.
A person looking at the table at face value might decide that he will prefer to go for the plus or income plan as he does not want to wait until age 80 or 90 before he can start to get his money. Someone using the payout calculator might also have the same thinking.
This is a misintepretation as no matter which scheme you choose, you will start getting a monthly payout from your DDA onwards.
Just that for the case of the basic and balance plan, your monthly payouts from your DDA till age 80 or 90 will come from the balance in your RA which has not been used to pay for the annuity. The diagrams from page 6 and 7 of guide B actually shows this quite clearly.
Q: Do my savings used for CPF LIFE continue to earn CPF interest? (Page 10 of Guide B)
A: Yes. Interest earned on the RA savings will continue to be paid into the RA. Interest earned on the annuity premium will be paid into the Lifelong Income Fund and pooled with the interest earned from the annuity premiums paid by the rest of the CPF LIFE participants to provide the life long payout under the scheme.
In addition, you will earn the extra 1% interest on the first $60,000 of your combined CPF balances including the annuity premium (less annuity payout) that had been deducted from your RA. This extra interest will be paid into your Retirement Account.
The “YES” here should not be taken at face value. A wrong assumption here is to think that no matter which plan you choose, there is no difference and you will continue to collect full interest.
The difference is that interest paid to your RA goes directly to you while interest paid from your annuity premium goes into the Lifelong Income Fund which might or might not benefit you (depending on how long you live). This will make a difference to the amount you leave to your estate should you pass away.
Say I have $100k. The estimated annuity premiums payable at age 55 should I opt for basic, balance or plus plan are $10k, $30k and $100k and my RA would have $90k, $70k and $0 respectively.
After 10 years (at age 65), my RA would have (assuming 4% interest) $133k, $103k and $0. If I kick the bucket at that time, my estate will get the balance of my RA plus the unused annuity premiums which works out to be $143k, $133k and $100k respectively. So, someone who dies early will not be able to benefit from the interest earned in the Lifelong Income Fund which is reflected as a lower payout to the estate.
Basically, all these “lost interest” will be used to fund the monthly payouts to those who live longer. There is nothing wrong with this as this is the core essence of an annuity plan – the pooling together of longevity risk.
However, if everyone starts living beyond 85, the scheme will either become unsustainable or payouts will have to be reduced significantly.
Under the old scheme where you only get $X/month for 20 years, it is simply not possible for everyone to get $X+y/month for life if the interest rate is the same under both schemes. Where does the extra money come from?
So while you are opting for your plan, bear in mind that the monthly payout figures are only projections which assumes a certain mortality rate and interest rate. There also isn’t a guaranteed minimum payout, which would have helped members see what is the “floor” of their monthly payout.
Another minor point is on the extra 1% interest earned which is supposed to go into your RA. Note that 1 or 2 months before your DDA, the Board will deduct another annuity premium from additional monies which had gone into your RA from age 55 to 65. This of course includes the extra 1% that you have been earning. The deduction will be based on the proportion of the original CPF Life plan that you choose (Page 12 of Guide B).
The last point I want to address is someone asked whether the premium that goes into the annuity scheme is fixed or based on a percentage.
It is actually based on a percentage of the amount you have left in your CPF as part of the Minimum Sum. The percentages of 10% and 30% for the basic and balance plan that is given now is only an estimate.
So, if I have $50k in my RA and opt for the basic plan, $5k (assuming an estimate of 10%) will be deducted to fund the premium. If I have $117k, then $11.7k will be deducted. Even if I have $200k in my CPF, it will still be $11.7k as I would have withdrawn $83k from CPF (after meeting the Minimum Sum requirements) leaving behind $117k in the RA.
Taken from the FAQ on the CPF website:
Q: Is there a maximum amount that I can use to join CPF LIFE?
A: When you join CPF LIFE you use all your Retirement Account (RA) savings to join the scheme. The maximum amount that you can use to join CPF LIFE is therefore the maximum amount you have in your RA which is the prevailing Minimum Sum (MS).
Q: Why can’t CPF members commit more than the prevailing Minimum Sum into CPF LIFE?
A: Some CPF members may want a higher lifelong income and are willing to pay more for this. The National Longevity Insurance Committee had considered this but recommended that CPF Board should focus on operating CPF LIFE as an integral part of the Minimum Sum (MS) Scheme. The MS represents the basic retirement sum that the Government will help members to accumulate. Should members desire higher monthly income beyond what is provided by the prevailing MS, they could buy annuities from commercial providers.