The Singapore government has the difficult task of finding the right balance between flexibility and sustainability. CPF is a prime example of how the government is trying to allow some individual flexibility while ensuring that the retirement scheme is sustainable for years to come. The CPF Minimum Sum scheme aims to provide Singaporeans with a monthly income to support a basic standard of living during their retirement. The portion of CPF that exceeds the Minimum Sum can be drawn out by age 55. Compared to other countries, the CPF is actually quite flexible. As an American under age 67 (what is considered “full retirement age” for my cohort), I cannot draw on my Social Security contributions to pay for my home; in fact, I can’t draw on them at all until age 62, the early draw age in which I’d have to pay a penalty. Even the idea that Social Security is “my money” is an almost laughable thought.
The US Social Security Act clearly states that the US government “has no legal obligation” to pay its citizens, even though we pay into the “trust fund” every year and we even receive records of our cumulative contributions. In addition, if you’ve read my previous post comparing the two retirement schemes, you’ll see the Social Security letter recently sent out to the working generation, stating that by the time we retire, we are only estimated to receive back around 78 cents on the dollar (in their best case scenario).
CPF works like an annuity. There is an accumulation phase in which regular contributions compound over time, creating a larger and larger nest egg. At the drawdown age (which is now at 65), contributions cease and the distribution period begins. For those who are included in CPF Life, members will receive payouts for the duration of their lives. If that member dies with money left in his/her CPF account, that money is then transferred to beneficiaries. Below is a graphic from the CPF Board.
In Singapore, you can use your CPF before you reach the drawdown age to buy a home or pay for tertiary education. This offers Singaporeans greater flexibility, but flexibility is a double-edged sword. As Prime Minister Lee said in this year’s National Day Rally,
The core purpose of the CPF should still be to provide a steady stream of income in old age.”
But to address the many complaints and concerns of the people, the Prime Minister has introduced even greater flexibility by allowing a partial lump sum withdrawal subject to some limits (the details of these limits have not been released yet).
Indeed there are extraordinary situations in which one will need money to address an emergency (and flexibility is required), but these circumstances should be very, very rare. With proper planning emergencies can be prevented or handled with minimal financial impact. Unfortunately, the reality is that many people who do not face such emergencies may choose options that immediately benefit them in exchange for future security and sustainability. They may have the intention to replenish the funds at a later, more opportune time, but for many, this time never comes, and in the blink of an eye, they’re in their retirement years and in need of greater support.
When such a person, as a result, then requires additional social support, it is ultimately the people (through taxes) who end up bailing him/her out. This is where the idea of sustainability needs to be in check. The Minimum Sum was created for the purpose of having a sustainable steady stream of income. If that stream is depleted too quickly by a partial lump sum withdrawal, and much greater social support is needed for the population of people who opt for this partial withdrawal, then the entire system will become more burdened and less sustainable as a whole.
Although there will be a select few who have the discipline and expertise to exercise prudent control and judgment over their own money, the reality is that most of us will not fare better than the government’s guaranteed rate of return (2.5% for Ordinary Accounts and 4% for Medisave and Retirement Accounts) and most of us will not save enough money for retirement. So this is the difficult balancing act that the government is trying to achieve. On the one hand, they are trying to keep the entire system from become unsustainable (much like the US Social Security scheme) while giving some flexibility to address certain out-of-the-box situations that their members may face.
The proper balance between individual flexibility and sustainability of CPF will change over time and might mean tax rate increases or other measures. This is why I advocate living frugally now. Not only will it keep you accustomed to a more sustainable lifestyle throughout your life, but it also will give you more options in your own personal financial sustainability in the future.