This is part of a 4-part series on the clever use of debt for savings and investments. In this article, we look at ways to create durable benefits in cash flow via CPF Life, through the use of a home equity loan.

The official name for it is Mortgage Equity Withdrawal Loan (MWL) as coined by MAS, or what is commonly referred to as term loan in our industry. It’s only available for private properties, not for HDB (until the law changes).  The idea is you can “cash out” with taking more loan secured against the equity portion (as opposed to debt portion) of your property value if you’d been paying down the principal sum of your mortgage loan over a period of time, whilst the valuation has also risen. You are “withdrawing” from this increased equity value 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 explore and find out only when we are closer 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 goes 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 home equity loan, or term loan, which I just explained at the start.  You still “give to your parent” indirectly, by servicing a slightly 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 own-use property with 20 years tenure remaining.  He gives his dad about $800 allowance every month.  His father, born in 1960, will turn 65 in 2025 which is when he will start receiving his payout from CPF Life estimated to be $780 on the Basic plan (reducing payout) based on his current RA balance of $150,000.  You can estimate the amount of payout using CPF Life Estimator (requires Singpass login) 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 announced raising the cap for ERS (Enhanced Retirement Sum) from the previous 3x to 4x of BRS (Basic Retirement Sum) with effect from this year 2025. This means John can top up his dad’s RA with cash up to the new cap of $426,000 for the maximum possible payout. However, there’s no need for John to top up with so much cash to benefit from this.

Using the CPF Life Estimator (see below), John determines that simply by topping up his dad’s RA with a lump sum cash of about $170,000 in 2025 to increase it from $150,000 to $320,000, he could increase his dad’s projected payout from $780 to $1,590, an increase of about $810, which is about how much he gave his dad in cash right now!

John decides to cleverly make use of home equity loan on his existing house by gearing up from $800,000 to $970,000 and cashing out a lump sum of $170,000 for this purpose.  He’s able to do that 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 withdraw on home equity).  Let’s take a look at what’s the impact on his monthly cashflow in terms of mortgage repayment.

Using just the first year’s amortisation to illustrate, even though John’s monthly repayment goes up by $901 from $4,239 to $5,140, it still makes a lot of financial sense to do this and I will give you three perspectives why so.

1. Cash Flow Perspective

Instead of giving his dad $800 allowance in cash every month, John now pays the bank a higher monthly repayment by $901.  Beginning on his 65^th birthday in 2024, his dad now gets more or less the same “allowance” of $810 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 2.50% which will not stay this high forever.

Of course, this only works if one of your parents is above the age of 65 where CPF Life payout starts for most (do note that 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 $800 allowance in cash previously.  You can see the interest component is about half at 39% in the first month and this is set to go down over time with mortgage amortisation.  This means his real cost is only about half of $901, or $450.  His dad still gets the same “allowance” of $810 but indirectly via 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 the property is sold.

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 which totals $1,590 now, even after John finished paying off his entire loan in 20 years.  It does not matter if John should change his plans later and upgrade his condo to a landed property, the lump sum of additional $170,000 borrowed will still get factored in his new purchase calculus. In other words, 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 his dad’s 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 (Note: Annuity premium for CPF Life is returned to beneficiary only if the Basic plan is chosen which is the case here, this does not apply to Standard or Escalating plan. Read more on CPF Life).

You might have a concern what if the property market downturns 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 which govern how much home equity loan one could cash out means the bank has deemed your debt level to be comfortable before even 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 a home equity loan.  However, if you do get one approved, there’s usually 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, with numbers illustrated updated to the current year. )

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