Jan 18, 2011

The Partial Myth of the "Asset Rich, Cash Poor" Singaporean

Consider this scenario.

Mr Tan Ah Kow is a Singaporean in his mid-30s. He has about $80,000 in his POSB savings account, and about $80,000 in his CPF Ordinary Account.

Every month Mr Tan needs to pay about $800 for his HDB loan. Should he pay with his POSB money, or with his CPF money?

Note that Mr Tan's CPF OA earns interest at 2.5% per annum. Meanwhile, Mr Tan's POSB money earns interest at a much lower rate of about 0.125% per annum (20 times less).

If this difference in interest rates was the only consideration, Mr Tan would surely use his POSB money to pay his mortgage. After all, his POSB money is earning so little interest.

However, in reality, most likely Mr Tan would use his CPF money to pay his mortgage.

Why? Because Mr Tan wants to reserve his POSB money for all his other financial needs and purposes. In other words, Mr Tan wants to maintain his core liquidity.

Mr Tan also knows that if he doesn't use his CPF OA money to pay his mortgage, then all that money would remain largely locked up until he reaches the age of 55 years.

Or 62 years. Or 65 years.

(Or maybe 85 years, depending how the government decides to fiddle with the rules, over the next few decades).

In other words, Mr Tan's CPF funds are subject to long-term political risk. The more money Mr Tan has in his CPF Ordinary Account, the greater the political risk he is exposed to.

Mr Tan may not know the technical terms - such as "core liquidity" or "political risk" - but Mr Tan is not stupid. The extra interest he could earn on his CPF monies (in comparison to the interest on his POSB savings) is almost certainly not going to be sufficient to entice him.

Almost instinctively, Mr Tan will seek to spend as much of his CPF money as he can, on his home loan. In fact, Mr Tan may even use his surplus CPF OA funds to prepay a large portion of his HDB loan.

Meanwhile, if Mr Tan is a prudent man, he might also save for his retirement needs, by investing some of his POSB savings in shares, bonds, ETFs, unit trusts, investment-linked policies and the like. With some care and a little luck, Mr Tan can build up a tidy sum of money over time, to meet his retirement needs. It's just that this money won't be coming from his CPF account.

* * * * * * * * * * *

If Mr Tan's case is common among Singaporeans, then what does this say about the CPF? Possibly, one could draw the the following conclusions:
(1) The CPF is a mandatory savings scheme, not so much for your retirement, but for your housing needs. Thus the success of the CPF scheme should be measured not necessarily by the number of Singaporeans who can retire comfortably with their CPF savings, but by the average age and the number of Singaporeans who own their own homes and have fully paid up their mortgages.

(2) If you actually expect your CPF money to cover your retirement needs, you could be seriously screwing your own financial health. Instead you should be actively saving and investing for your retirement, with your non-CPF funds.
In addition, due to the long-term nature of the CPF scheme and the government's power to write and rewrite the rules, one may also conclude that your CPF monies are exposed to a significant degree of political risk.

But then, just like Mr Tan, you already knew that.

Didn't you?

13 comments:

ilcourtilcourt said...

because all Singaporeans do so, it is correct?

Does buying a house make sense? since its value is mostly speculative and not linked to its rental value, one could say that buy a HDB with a 30y loan would be a political risk

Moreover don't most Singaporeans leave their cash on their POSB account unattended?

I still think it makes more sense to leave the CPF on the CPF account and that all Singaporeans are wrong/kiasu/kiasi to use CPF to buy their housing lease (the fact that it is a lease and not an ownership makes the purchase at such prices even more bewildering since there is no rental income assoctiated)

Anonymous said...

Actually in Tan Ah Kow's case, due to his CPF not being that much and also CPF money is not liquid in that it can be used for emergencies (unlike his cash) the higher CPF interest becomes insignificant.

So it is better for him to use CPF to pay for his housing and reserve his POSB cash for emergencies and other needs.

People like Tan Ah Kow are neither here nor there (not rich but also not really poor) and in Hokien they call it "si buay si huak buay huak" meaning "half dead" in facing the high cost of housing and living.

It is not a pleasant situation to be in. The solution is for Tan Ah Kow to himself to make more money and accumulate a lot of it and get out of the situation.

Don't expect the gahmen to help because their priority is the big picture which is also the reason why CPF rules are like that and also cost of living is high. You suffer? Help yourself.

Anonymous said...

Picking up a point ilcourtilcourt made - "Does buying a house make sense?"

It's a good question.

Many Singaporeans subscribe to the belief that buying a property ,HDB/condo/house, is an investment.

PAP government propels this belief. It produces schemes like "HDB upgrading can increase your assets", etc. Lee Kwan Yew recently also said that HDB increase is a good thing.

Yet, investment books you read tells you that "the house you live in is not an asset". At least, not from an investment perspective since you are most likely in debt, and the house you live in is not generating cash for you. You are better off living in a cheap house, and use the spare cash for investment, etc, etc.

PAP government wants Singaporeans to have that belief, so that they are in debt, so that continue work hard, grow the GDP, and don't take too much risk. Especially, political risk.

(Trust me. When you have a big housing debt that you are working to pay off, you don't want the prices to fall.)

Of course, you also know this already, right?

MW said...

Malaysia welcomes all Singaporean with open arms to abuse their currency in Johor, when they are old and unwanted in their own country.

Amused said...

When you buy a HDB flat, the interest you pay for obtaining the loan (mortgage) currently range from 2.6%-4.5%. So how is the 2.5% interest rate a good deal when the only use for CPF money is to borrow more money from the government/bank at an even higher interest rate?!

Also, many people in other countries have learned the hard lesson that houses are not an investment/retirement asset. In fact, they can be a significant liability and even ruin you financially. But no one cares about such advice until it is too late.

(The only way you can come out on top is to withdraw your CPF money by emigration.)

Raelynn said...

singaporeans tend to believe that their property (or at least not including HDB) is an asset because they can still sell their condos/landed properties and buy HDB as a downgrade. which i disagree. but oh well.

Alan Wong said...

Talking about our great PAP leaders changing the CPF rules , isn't it ironic that they are so more particularly concerned that you have some CPF money left (whatever little that you may have) to spend after you are 65 years old but couldn't give a damn if you are starving yourself to death when you are from 55 to 65 years if you have no other savings.

One thing for sure is that the PAP govt has already lost its credibility when they broke the original promise to let the CPF contributors withdraw their 55 monies at age 55.

Whatever contributors do with their CPF withdrawal at 55 is none of the Govt's business. If the PAP govt can't even keep that original promise, what other promises can we trust that the PAP govt will be able to keep for us ?

Anonymous said...

Please note if you are using your CPF to pay for your housing loan...

Remember you are paying for a 99 year lease or earlier [depending on the age]....

Finally do kindly note...the PAP government...excuse me...i mean the PAP HDB can take it for a pittance once the 99 years lease run out...or using some BS mandatory law to "take back" the leased property else en-bloc it...

You know...the usual legal BS...

They are just bottom feeders who can only see the short term and always all advantages to themselves 1st...everybody else...you die your business...never mind if the monies i have been using/living off was originally tax payers blood monies...

How mentally sick and empty vessels are these people?

Go figure!

ilcourtilcourt said...

Of course one should have a mattress of liquid assets for 6 to 12 months expense before investing in illiquid assets. Of course one should have some proper health insurance as well (and that medishield and medisave are not).
So to form that mattress using CPF might be a solution, but I would switch to cash funding for housing as soon as possible.
Having liquid assets pushes ppl to spend instead of saving: look at the cars, tv, phones people buy: everyone is buying highend!

Anonymous said...

Ilcourt, you're focusing on liquidity but you forgot the political risk.

6 to 12 months liquidity for "normal" expenses is also inadequate, relative to the period of decades during which your CPF is locked up.

Mr Tan has another 30 years to go, before he can get his CPF money. D30 years is so long that it would be extraordinary if he did not have many extraordinary expenses to meet, during that time.

Anonymous said...

The risk is that CPF rules can be changed anytime they like, so there is no telling what is going to happen a decade or two down the road. As it is, the higher interest rates are not a guarantee, going forward.

Even with the higher interest rates that they are giving, I, for one, would prefer to keep my cash for a rainy day and pay my HDB loan out of my CPF, regardless of the lower interest earned on my cash savings. At least I can draw on the savings in times of need. Not so with my CPF.

As a matter of interest, the CPF Board has been enticing older Singaporeans to join CPF Life, but it seems the response has been less than lukewarm, despite their dangling a up to $4K Life Bonus. Out of more than a million letters that they send out to older Singaporeans, only about 5% choose to opt in.

Anonymous said...

There are so many rules to CPF, I no longer understand it. It seems like the money is not my money anymore. They don't need my permission to decide how to deal with MY money, imposing rules that THEY think is good.

Eh, if I can use the money and start a biz which improves employment and economic indicators at age 35, 40, 50, 55, how?

Sorry no my biz, the rule is 65, even if the biz opportunities are gone by then. It's you fault.

Jolly Jester said...

A few thoughts on why buying a house using CPF makes sense (given current rules, as opposed to the discussion on whether CPF should be locked only for retirement):

a) It allows us to leverage on this otherwise locked away source of holdings

b) the return of housing (capital appreciation) is > than cpf interest rates and likely to be greater than funds

c) it remains the only venue to actually receive CASH profits out of investments using CPF. The profits from selling the house (after subtracting the CPF principal and interest) go to you in cash. There used to be a time when profits in stocks and shares and funds using CPFIS was redrawable in cash, but they plugged this a long time ago.