Saturday, 3 December 2016

Voluntary Cash Top Up to CPF SA, A Story of Delayed Gratification

Retire comfortably with CPF-SA
This is a story of Tom (age 28, earning close to median monthly salary of $3,500 per month), a man willing to sacrifice short term pleasure for long term gains. As end of the year approaches, many of us might be thinking of a short getaway trip especially during the festive seasons. A short trip to our neighboring countries would usually cost around $1,000 per pax inclusive of flights, accommodations and overseas spending. For Tom, the cost of a trip probably closer to $2,000 as he pays for his wife's expenses as well (I believe most men still do despite ladies earning their own keep).

Tom and his wife loves to travel, furthermore his wife has been hinting for a shopping trip to Seoul for sometime. Due to monthly expenses and commitments, he has not much savings left at the end of the year. He decided to persuade his wife to postpone their trip till a later stage when their finances are more stable. Despite getting berated by his wife, he made his stand and they came to an agreement.

Tom tops up $5,000 ($2,000 from the money saved on the trip and $3,000 from his end of year bonus) to his CPF SA account. He does this religiously for the next 20 years. 

His income remained the same from age 28-34 (which you could do better as you are way more hardworking and brilliant than Tom), and increased to $4,000 from age 35-47 (another conservative estimate, which you could surpass easily).

From 28-34, he has to contribute 6% of his gross income to CPF SA (allocation of CPF contribution can be found here). 

Therefore for the first 7 years, he would have contributed $7730.00 per year (calculations below).  

$3500 x 13 (+1 month bonus) x 6% = $2730  

$2730 + $5,000 cash top up = $7730

From age 35-47, he has to contribute 7% of his gross income to CPF SA. For the next 13 years, he would have contributed $8640.00 per year (calculations below)

$4,000 x 13 (+1 month bonus) x 7% = $3640

$3640 + $5,000 cash top up = $8640

Plugging the values into a compound interest calculator with a starting CPF SA balance of $10,000 (approximate amount for age 28), Tom will have approximately $280,000 by age 48 (if you like to get your hands dirty into the calculation, feel free to contact me).  This is compared to $125,000 by age 48 without voluntary cash contribution.

Tom takes his wife out twice per year now with the extra money his money made for him. With $280,000 in the SA, Tom generates a passive income of $11,200 per year at 4% pa. If he had not made the cash top up of $5,000 per year for the last 20 years, he will only be generating $5,000 per year at 4% pa.

At 48, Tom and his wife is happy. They go on holiday trips frequently. knowing that the decision to top up $5,000 per year provided them an extra $6,200 to go on holidays without worrying too much about retirement income. Furthermore, as long as Tom keeps up the contribution of $5,000 per year up to 55 years old, he will be expecting a balance of over $400,000. 

Tom's story is entirely fictional although there are strong cases for it. Supposed you have ensured that $5,000 annually is a sum that you could afford to top up into your CPF SA and still be able to meet necessary expenses or mortgage payments, this is reliable method to generate good returns over the years (and we have not even accounted for the tax relief over the years).

Well... if you cannot be like Tom, you can also start with a comfortable amount. Afterall, all big things come from small beginnings?

Disclaimer: Personally, I prefer to top up cash into SRS account for similar tax relief and some flexibility in withdrawal in case of emergencies or opportunities. However, I have to invest the funds in my SRS prudently and achieve 4% returns annually while for CPF SA, it is almost guaranteed (given the rising trend of our interest rate environment + CPF interest rates unchanged since Sept 1999).


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