How to benefit from CPF Life even before turning 65?

This is the first of a 4-part series on the clever use of debt for savings and investments, and we’ll start by looking ways to leverage CPF Life using mortgage equity withdrawal loan (MWL)

MWL, or term loan in short, is only allowed for private properties, not for HDB.  You can take out more loan secured against the equity portion (as opposed to debt portion) of the property value when you have paid down the principal sum over time, whilst the valuation has also risen.   You are “withdrawing” from this increased equity portion over time, hence the name. Don’t miss the other articles in this 4-part series to find out how MWL can be used to:

• Consolidate all your debt (including your CPF OA accruals)
• Build retirement income in a different way
• Buy a second property in Singapore without incurring ABSD

We have all heard of CPF Life, the national annuity scheme, but think of that of something to research and find out only when we are near to 55 years old which is when our CPF funds get swept to a new CPF RA (Retirement Account) to be set aside for CPF Life scheme.  Do you know that there’s a way you can benefit immediately from CPF Life?

Most of us give some kind of monthly allowance for our aging parents above the age of 65, especially if they have stopped working.  Let’s assume this amount averages around $1,000 a month, which we give in cash.  Do you know there’s a simple way you can give them this amount indirectly via CPF Life which has three immediate benefits?

The simple idea works like this: Get a loan to top up their RA, so they get $1,000 more monthly payout from their CPF Life immediately (for those above age 65)!  The best way to do this is to borrow from your existing property in the form of a mortgage equity withdrawal loan (MWL), or what is commonly known as a term loan in our industry.  You still “give” to your parent but indirectly, by servicing a higher monthly repayment.

How does this benefit you?  Let us use a fictitious example to illustrate.  Suppose John currently services a mortgage of $800,000 at 3.25% on his residence property with 20 years tenure remaining.  He gives his dad about $800 allowance every month.  His father, born in 1959, will turn 65 in 2024 which is when he will start receiving his payout from CPF Life estimated to be $860 on the standard plan based on his current RA balance of $150,000.  You can estimate the amount of payout using CPF Life Estimator on CPF’s website.

Can you increase this CPF Life payout and is there a cap?  The answer is yes.  To help with building retirement funds, the government has just announced raising the cap for ERS (Enhanced Retirement Sum) from 3x to 4x of BRS (Basic Retirement Sum) with effect from 2025. This means John can top up his dad’s RA with cash up to $308,700 (current cap) this year but from next year this cap goes up to $426,000. That’s more for your information only as there’s no need for John to top up so much cash to benefit from this.

Using the CPF Life Estimator (see below), John determines that by topping up his dad’s RA with a lump sum cash of about $153,000 (hence nearing the cap of $308,700 in 2024), he could increase his dad’s projected payout from $860 to $1,690, an increase of about $830.

John decides to cleverly make use of MWL on his existing mortgage by gearing up from $800,000 to $953,000 and cashing out a lump sum of $153,000 for this purpose.  He’s able to do so as he has used little CPF towards the property and this is his only mortgage in Singapore (there are regulatory guidelines on how much you can encash on MWL).  Let’s take a look at what’s the impact on this monthly cashflow in terms of mortgage repayment.

Using just the first year’s amortization in 2024 to illustrate, even though John’s monthly repayment goes up by $867 from $4,538 to $5,405, it still makes a lot of financial sense to do this and I will give you three perspective why so.

1. Cash Flow Perspective

Instead of giving his dad $800 allowance every month, John pays the bank a higher monthly repayment by $867.  Beginning on his 65^th birthday in 2024, his dad now gets more or less the same additional $830 from CPF Life instead of from his son.  In short, there’s no material impact on John’s cash flow every month, even at today’s high interest rate of 3.25% which will not stay high forever.

Of course, this only works if one of your parents is above the age of 65 where CPF Life starts for most (retirees also have the option to defer the start to age 70 for a higher payout).

2. Cost Perspective

What’s interesting is this: Even though there’s no change in John’s monthly cash flow, there’s real savings for John now.  Not everything he pays is a “sunk cost” unlike giving his dad the $900 allowance previously.  You can see the interest component is about half at 48% in the first month and this is set to go down over time with amortization.  This means his real cost is only about half of $867 or around $430.  His dad still gets the same increased amount of $830 from CPF Life payout, but John saves half that sum as he’s “paying himself” in terms of reducing the loan.  Eventually he gets back this principal sum when he finally sells the property.

3. Benefit Perspective

There’s yet one more benefit to the whole set up.  CPF Life payout is for life.  His dad will continue to receive the payout totalling $1,690 even after John finished paying off his entire loan in 20 years.  It does not matter if John should change his plans later and sell and upgrade his condo to a landed property, the lump sum of $153,000 borrowed will still get factored in his new purchase calculus and he will always service an interest component on it that’s much lesser than giving the whole allowance directly to his dad. 

Eventually John will finish paying off the loan, but CPF Life payout continues.  He also gets back any “unused portion” of the cash value built up upon the demise of his dad, albeit that will follow the allocation as per his dad’s CPF nomination.

You might have a concern what if the property market turns soft and the value of your property comes down leading to a negative equity (property valuation going below the outstanding loan) predicament?  That may be a valid concern since you are increasing the loan-to-value, but the fact that there’s stringent guidelines in place that govern how much MWL one could encash means the bank has deemed your debt level to be comfortable before granting you the term loan.  For example, for someone with a single mortgage, typically the total geared-up loan cannot be more than 70-75 per cent of the latest valuation minus the CPF used.  In addition, your income must pass the tightened TDSR ratio of 55% before the bank will approve the new higher loan.  The upshot is not everyone can avail themselves of MWL.  So, when you do get it approved, there’s enough margin of safety built in to cater for the scenario of falling property prices.

In conclusion, more debt is not necessarily a bad thing if you know how to deploy it as good debt for either savings or investments.  So, for those thinking of paying down your mortgage with your spare cash, think again.  You may want to re-channel your funds for better use.  

(The article was first published by Business Times on 18 Nov 2023)

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