CPF Accrued Interest Trap Can You Downsize and Retire

CPF Accrued Interest Trap: Can You Downsize and Retire?

“My plan is to downsize my house to use the (capital appreciation) money for retirement.”

I was walking past a coffee shop and I happened to hear the above statement. The man who looked like he was in his 50s seemed to radiate confidence about his statement. I wonder if it was possible. While we are going to explore that today, do check out my most popular blog post in 2020 so far: 5 mistakes people make using their CPF.

CPF Accrued Interest Trap Can You Downsize and Retire

CPF Accrued Interest Trap Can You Downsize and Retire

Context Setting

To buy a home in Singapore, I would say a good majority of us will take a loan. As we are able to take up to 90% (HDB loan) or up to 75% (Bank loan) of the property prices, this means we have to put a down-payment. To illustrate, a $400,000 HDB property would require us to fork out at least $40,000 as down-payment.

To pay for this down-payment, I know most people would use their CPF-OA to pay for it. At the same time, most people will also use their CPF-OA to service their home loans.

This means that our CPF-OA might be wiped out throughout our loan bearing years.

What most people fail to recognized is that we are charged interest for using our CPF-OA, this is known as accrued interest.

 

CPF Accrued Interest

Accrued interest is the interest amount that you would have earned if your CPF savings had not been withdrawn for housing. The interest is computed on the CPF principal amount withdrawn for housing on a monthly basis (at the current CPF Ordinary Account interest rate) and compounded yearly.

(Source: How does the Board calculate the accrued interest on the amount of CPF used for my property?)

As CPF is meant for our retirement in our planning of Wealth Management, to safeguard the “loss of interest” during the years the monies are used for property, we need to refund the CPF-OA the following.

  1. The down-payment that was used
  2. The monthly installment that was used
  3. The accrued interest (interest that we would have received from our down-payment and installment if we didn’t withdraw from CPF)

 

Will the plan work? Let’s put it to the test

Let’s fixed a few reasonable assumptions to form an illustration. We will looking at downsizing from a 4 bedded HDB to a 3 bedded HDB after the loan tenure of 25 years.

HDB 4RM Value: $400,000

Down-payment: $40,000 (10%). Buyer Stamp Duty (BSD): $6600. Legal Fee: $3000.

Loan amount: $360,000. Monthly Installment: $1634. HDB Loan: 2.6%

CPF Accrued Interest Trap Can You Downsize and Retire Calculations

CPF Accrued Interest Trap Can You Downsize and Retire Calculations

In month 1, we add the down-payment, BSD, legal fee and the first monthly installment of $1634 to get $51,234. From day 1, the accrued interest would already be $106.74. In 25 years time (300 months), the total accrued interest would have already accumulated to $184,698!

Assuming the property market grows at 3% annually, your $400,000 property will now be worth $837,511. Isn’t that great? Your profited $437,511!! Before you think that your profit will be $437,511 and can be used for retirement, here is when the accrued interest trap comes in.

When you sell your house, you have to return back to your CPF the down-payment, the monthly installment and also the accrued interest. This would mean that you have to return $724,498 ($539,800 + $184,698) into the CPF. Your cash proceeds will only be $103,013.

Wait there’s more! 

Because you are downsizing, you can use your existing CPF-OA to acquire a HDB 3RM. Using time value of money, a HDB 3RM wroth $300,000 now will be worth $628,133 in 25 years time if it grows at the same 3%. You have to make sure that you have enough money to acquire that HDB 3RM.

Wait there’s even more!

You have to pay the HDB resale levy of $30,000 (as of 2020), agent fee of $8,375 (1%) and also legal cost of $3000.

Wait there’s even some more!

After the age of 55, you have to set aside your Full Retirement Sum (FRS) which is a combination of your Ordinary Account and your Special Account. This might post some problems to use your CPF-OA to acquire a HDB 3RM if you are unable to reach your Full Retirement Sum.

And lastly..

Assuming that you can acquire the HDB 3RM without problems, would $113,013 be enough for retirement?

CPF Accrued Interest Trap Can You Downsize and Retire

CPF Accrued Interest Trap Can You Downsize and Retire: Oh Damn

 

Conclusion

Retirement planning is often more than a single solution. There are many caveats that stumble the best of us. To ensure your retirement is secure, work together with someone that you trust and exhibit good expertise in this matter.

In my experience helping people plan for retirement, I realised those that retire in comfort usually have a combination of retirement tools ranging from properties, stocks, annuity and also insurance.

Thank you the uncle at the coffee shop who inspired me to write this article. Please help to share this article so that this article may find its’ way to him.

 

No one will care about your money as much as you do.

In Wealth Management, it is important to Pay yourself first. Beware of scams. Before you invest in any company or popular investment opportunity, be sure to do your own due diligence. If you wish to learn more about investment, I hope to nurture genuine relationships with all of my readers.

Check out my most popular blog post in 2020 so far: 5 mistakes people make using their CPF.

Please feel free to contact me on my Instagram (@chengkokoh) or Facebook Page or my Telegram Channel! Or subscribe to our newsletter now!

5 mistakes people make on their cpf

5 mistakes people make using their CPF

Wealth Management in Singapore typically entails the use of CPF. Given the wealth of knowledge shared by finance bloggers and planners out there, there is no lack of information but only misunderstanding of information. There are merits for each hack below but if used unwisely, it is often irreversible and regrettable.  The below are the top mistakes 5 people make using their CPF.

I will be writing on the hot hacks and why it won’t be good strategy for a certain group of people.

5 mistakes people make on their cpf

5 mistakes people make on their cpf

Mistake Hack #1: Transfer from OA to SA when…

I have a friend who transferred his CPF-OA amount into his CPF-SA after reading many articles available. He certainly benefited from the higher interest in his SA. He was happy until the day he wanted to purchase a house. After realising that his OA is empty, he would have to use cash or wait for his OA to accumulate back to a significant lump sum before he can buy the desired property.

 

Mistake Hack #2: Top Up $7000 into SA for Tax Relief when…

The same friend decided on top up $7000 into his SA and thought he could do it indefinitely to claim for tax relief. He thought it was a win win situation as his $7000 can grow from the higher SA interest rates and also reduce the amount of tax her have to pay.

5 mistakes people make on their cpf SA Top Ups

5 Mistakes People Make On Their CPF SA Top Ups: https://www.iras.gov.sg/IRASHome/Individuals/Locals/Working-Out-Your-Taxes/Deductions-for-Individuals/CPF-Cash-Top-up-Relief/

He didn’t realised that it is only applicable if his CPF-SA has not reached the current Full Retirement Sum (FRS). As he already transferred his OA amount into SA, he will be able to meet FRS in a few years time and won’t be able to have the relief anymore.

 

Mistake Hack #3: Our Returns are Guaranteed…

While this is not a hack, most people think the returns are guaranteed. In fact, the rates are reviewed every quarter. However, CPF hasn’t change their rates in years and so most people think the returns are guaranteed. Most people might have forgotten that it was changed once in 1999 (Post Asian Financial Crisis) from 4.41% to 2.5% for CPF-OA. I’m personally in favor of the rates not changing.

5 mistakes people make on their CPF Interest

5 mistakes people make on their CPF Interest

You can find out more on the change in 1999 here: https://www.cpf.gov.sg/Assets/common/Documents/InterestRate.pdf.

 

Mistake Hack #4: Topping up their CPF when…

This is a common one. In most of my conversations, people top up their CPF when they have a “feel” or “sense of urgency”. While, we are living in a fast pace world, there is only one month in the calendar year to top up your CPF that make sense.

CPF interest takes the lowest balance of the month to calculate monthly interest, compound it and credit it at the end of the year. As of the time of writing, I unable to find the source from CPF board that states “lowest balance of the month”. It is based on tribal information from seedly etc.

In this case, we should ideally top up our CPF in (around 3rd week) January (compounding effect for the rest of the year), so that in February onward, the lowest balance is already been boosted by the top up and taking into account any tax reliefs from the financial year.

 

Mistake Hack #5: Allowing SA and OA to be transferred to RA..

For those that are servicing your home loan with CPF-OA, you can continue to do so by stopping your OA balance to be transferred to the RA. One of my friend got a shock of his life when he realised his OA is empty after 55. If you still depend on your CPF-OA on your housing loan, please do set aside some saving for that purpose.

5 mistakes people make on their CPF Housing

5 mistakes people make on their CPF Housing: https://www.areyouready.gov.sg/YourInfoHub/PublishingImages/CPF%20Retirement%20Booklet.pdf

 

 

Conclusion

Please do take the CPF-Hacks in their respective context. CPF is not easy to understand but is still relevant and important as part of your wealth management journey.

Thank you SK/PG Mastermind for the inspiration for me to write this article.

 

No one will care about your money as much as you do.

In Wealth Management, it is important to Pay yourself first. Beware of scams. Before you invest in any company or popular investment opportunity, be sure to do your own due diligence. If you wish to learn more about investment, I hope to nurture genuine relationships with all of my readers.

Please feel free to contact me on my Instagram (@chengkokoh) or Facebook Page or my Telegram Channel! Or subscribe to our newsletter now!