I think let us take a break from AMC, BlackBerry and Game Stop for one weekend.
A few days ago, one of our client advisers shared a financial planning case study with me.
The couple is not working in Singapore and it is not mandatory to contribute to CPF. The couple’s income requirement is north of $30,000 a month in today’s money. The couple probably has 12-13 years until they will think about stopping for work.
Would it make sense to recommend the couple to contribute to their CPF?
The deeper question is: if the income needs maybe $42,772 a month in 12 years time, should we even think about optimizing CPF at all? CPF would only be able to fulfill a very small portion of the couple’s income requirement.
Here are my perspective about this aspect of the case study:
We are often snooked by numbers until we do the calculations. $42,772 a month is such a large monthly sum that automatically, we conclude that optimizing CPF so that we can have a greater CPF Life annuity income will not make much of a difference.
In reality, there are two-person, and they can top up to the Enhanced Retirement Sum (ERS) in the future so that their CPF Life Annuity income would be greater.
I shall not go too much into the math, but there are two-person, and if you top up for both, at 65, both would have a total of $7,200 a month. This amount does not make up for 50% of the couple’s income requirement, but it is substantial enough to be part of their income plan.
We should compare the opportunity costs of contributing to CPF today. If we are able to grow the couple’s CPF at a rate of return greater than 4-5% a year, compounded over many years, within the couple’s risk tolerance, then they might not need to contribute to CPF today.
The most important thing we need to make sure is to compound their wealth to capture the return. If the couple can compound at a higher rate, they could always top up to the Enhanced Retirement Sum in the future.
CPF Life Remains a Very Good Annuity Plan. It is challenging to find an annuity plan out there that has mortality credits built into it.
Some advisers would introduce you a retirement plan that masquerades like an annuity with better returns. They are often a whole life or endowment plan instead.
A good litmus test is this: CPF allows you to opt-out of CPF Life if you have an equivalent annuity plan. There are some strict criteria.
Most likely a lot of the plans do not pass this.
If these plans were structured with the same constrain as your CPF funds, the income may not be as lucrative.
A good annuity plan hedges the couple’s longevity risk. CPF Life can be part of the couple’s diversified income stream in their sustainable spending plan during retirement.
The Significance of a Small Stream of Perpetual Income
We have the opportunity to work with families whose income needs vastly dwarf their potential CPF Life annuity income like the case above.
Our sensing is that they are curious and open to optimizing their CPF so that this income stream can be part of their plan. Most would believe their income needs are more than the income from CPF Life Annuity.
But I have a hunch that their eventual retirement lifestyle may command much less than the income requirement in their head.
Somehow, I kept hearing either people not drawing on the income or that they currently have income from other sources.
Which make me wonder are a lot of people padding a lot of buffers into their plan.
In the past, I wrote that our future self may not like the retirement plan we planned by our past self.
Usually, we gave an income requirement based on the lifestyle we live today. In reality, our tastes, personality, lifestyle can be very different in 20 years.
It is always good to buffer for more during planning, but if we buffer too much, we may end up working longer than we really wish to.
Channel News Asia produced a pretty good series called What Retirement On $1,000-$2,000 A Month In Singapore Looks Like:
This video profiled three set of families/individual who said they can live on a $1,000 to $2,000 a month in retirement:
- Phua Foo Guan, 63 – Expenses $2,000 a month. Retirement funds consist of CPF Savings, Cash Savings and Investments. $2000 a month from CPF. Went to Beijing/Siberia trip for 30 days. This trip could have been $10,000 if they did not go the budget route (they reduced to $4,400).
- Mohd Amin, 67 and Rosnah Ahmad, 66 – Expenses $1,000 a month each -> $1,200 a month Government pension scheme, applied to be exempted from the CPF Retirement Scheme, withdrew $100,000 in CPF savings use the money to go Hawaii, New Zealand, Australia, Turkey, and London. Downsize 5 room flat to 2 room flat. This net them a sum of $300,000. $700 a month comes from his part-time job.
- Patrick Lee, 62 – Expenses $1,200 a month. Rent out a room for $930 a month. When he turns 65, CPF Life would contribute $300 a month for life. There are also dividends from his unit trust investments sold through a bank.
Channel News Asia also did two videos where Kenneth from Seedly and Chuin Ting from MoneyOwl commented on how 4 different people setup their financial lives.
In the second video, property agent Tan Pang Kuang, 63 shared that the income required for his food, clothing and everything else can be below $2,000 a month, possibly $1,000 a month.
After viewing the series of videos, I really enjoyed Patrick Lee’s sharing. I find him quite eloquent, and I learn that you may have figured out this money game very late but if you control your expectations, you can still make things work and live a colorful life.
The best thing I like about these three videos is that it allows the viewers to contrast the income needs in their head with these people.
Some of you who are 45 might find it incredulous that a couple can make do with $2,000 or less. Some may have a suspicion that being a reality TV show, a lot of the details were not reveal.
The person under the most suspicion is Mr Phua Foo Guan and wife because they seem to live in a landed property.
Even I wonders if the maintenance cost of a landed property would prove challenging for the couple to work within a $2,000 a month expense.
I think it is healthy to try and poke holes in their interview.
What is more healthy is to think whether these people are living a good life or not. If you agree their life is decent, what are the ingredients to a good life to you?
How much of a good life can you fit into $2,000 a month?
If I have the chance to interview them, I would be curious to know at 45 years old, did they expect their lifestyle to be like this in retirement?
Did they expect that this life can be funded with less than $2,000 a month?
The end-of-history illusion will cause us to overestimate or underestimate our retirement income requirement. There are other common areas that doesn’t jump to our head:
- We don’t work anymore so there is a whole host of expenses associated with work you factored in
- You might not want to rely on the maid
- Children have their own family and moved out
- You have less dependents or no dependents at that age, so insurance costs are lower (but perhaps higher hospitalization premiums)
- Your interest have always been volatile
I do not expect a couple who needs $30,000 a month to squeeze their lifestyle into $2,000 a month.
But I think it is worthwhile to ponder how much you could squeeze into a smaller cash flow that your current portfolio + CPF can generate.
By doing this, you may shift the conversation with your spouse onto the lifestyle both of you can condone with instead of discussing an arbitrary income requirement drawn out from your current expenses.
For a lot of people, the mere ideal of having some financial stability can life the personal mood and morale by a few notches.
A lot of folks tell me that they do not need a lot, then proceed to tell me they need an income of $8,000 a month.
So here is the challenge, figure out how much you could squeeze into $2,600 a month today. Those folks interview in the CNA series are living real lives. If you do not need a lot, you should be able to squeeze a fair bit into $2,600 a month.
Why $2,600 a month? It is a rough estimate made up of two $1,300 a month annuity income stream.
Start with the following expense item and work your way down:
- Food (if you are not going to work)
- Transport (if you are not going to work)
- Mobile communication
- Home conservancy and condo maintenance
- Household maintenance & replacement
You are likely to spend on these things in the future, just inflation-adjusted. Who knows, some of these things might go into a deflationary spiral.
If you have an investment portfolio, extend this exercise to cover the income potential that your investment portfolio could generate. For example, a good rule of thumb to use is an initial 3% withdrawal rate.
If you have $300,000, 3% would mean you could potentially generate, $750 a month more. Could you squeeze in more life?
Let me know below how much you could squeeze into $2,600 a month.
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