CPF Life: Is it a worthwhile investment?
In a previous post, CPF Life: A Primer, we described the features of the CPF Life scheme. Singapore has phased out pension schemes for most of the citizens and residents. Hence, CPF Life will play an important role in post-retirement finances of the CPF members, being a mandatory annuity which serves as a cross between the defunct defined benefits pension schemes, and a the defined contribution scheme which the CPF has been associated with. But it is common to view CPF Life as an investment, and whether it is a worthwhile investment.
In particular, as a life-long annuity, it hedges the post-retirement finances of the CPF members against longevity risk, i.e. the risk of outliving financial resources. Therefore, CPF Life should be evaluated, not as an investment (i.e. what is the return on investment, when is the breakeven longevity), but rather as a hedge (i.e. does it protect against longevity risk – yes, is it actuarially fair, or value for money). In the following, we address the second metric for evaluating CPF Life – what is the value of CPF Life, and is it a worthwhile investment?
CPF Life hedges against longevity risk –
the risk of outliving financial resources
* Our update on CPF Life for 2020 is here!
Calculating the Value of CPF Life
The assessment of the value of CPF Life is a straightforward present valuation of the cashflows:
- At the age of 55, the CPF member “invests” a sum of money into a deferred annuity. We assume this is the Full Retirement Sum (FRS) of members turning 55 in 2019, $176,000
- At the age of 65 onwards, the CPF member receives a monthly stream of payments. This is projected by the CPF Board based on various assumptions regarding the returns it achieves on the funds
- Should the CPF member pass on before starting to receive the monthly payments at the age of 65, the CPF Board refunds the entire FRS plus the accumulated interest to deceased member’s nominees
- Should the CPF member pass on after starting to receive the monthly payments at the age of 65, the CPF Board pays the projected bequest to the deceased member’s nominees. The amount of the bequest depending on the age of the member.
We need two further parameters to evaluate the value of CPF Life:
- The discount rate. This is derived by computing the discount rate on a stream of payments over time from the age of 65 onwards until the exhaustion of the funds in a member’s Retirement Account (RA) such that the present value is equal to the minimum sum of $176,000. This works out to be 4.27%, which is a blend of the RA interest rate, plus the extra 1% paid to balances up to $60,000 and the additional 1% paid on balances up to $30,000.
- The likelihood that the member will pass on at a specific age. This is derived from the preliminary Life tables for Singapore 2017
For males:
| Age x (Years) | Prob of dying between age x and x+1 | Number of survivors at age x | Number of deaths between age x and x+1 | Expectation of life at age x |
|---|---|---|---|---|
| q(x) | l(x) | d(x) | e(x) | |
| 55 | 0.00424 | 95,636 | 406 | 27.6 |
| 60 | 0.00687 | 93,186 | 640 | 23.2 |
| 65 | 0.01101 | 89,353 | 984 | 19.1 |
| 70 | 0.01859 | 83,445 | 1,551 | 15.3 |
| 75 | 0.03108 | 74,243 | 2,307 | 11.8 |
| 80 | 0.05308 | 60,956 | 3,236 | 8.8 |
| 85 | 0.08923 | 43,390 | 3,872 | 6.4 |
| 90 | 0.14730 | 24,137 | 3,555 | 4.5 |
| 95 | 0.23240 | 8,988 | 2,089 | 3.1 |
| 100+ | 1.00000 | 1,775 | 1,775 | 2.1 |
For females:
| Age x (Years) | Prob of dying between age x and x+1 | Number of survivors at age x | Number of deaths between age x and x+1 | Expectation of life at age x |
|---|---|---|---|---|
| q(x) | l(x) | d(x) | e(x) | |
| 55 | 0.00252 | 97,281 | 245 | 31.5 |
| 60 | 0.00380 | 95,831 | 364 | 27.0 |
| 65 | 0.00591 | 93,681 | 553 | 22.5 |
| 70 | 0.00958 | 90,351 | 865 | 18.3 |
| 75 | 0.01796 | 84,936 | 1,526 | 14.2 |
| 80 | 0.03505 | 75,301 | 2,639 | 10.7 |
| 85 | 0.06289 | 59,872 | 3,765 | 7.8 |
| 90 | 0.10926 | 39,500 | 4,316 | 5.5 |
| 95 | 0.18031 | 19,054 | 3,436 | 3.8 |
| 100+ | 1.00000 | 5,548 | 5,548 | 2.6 |
From these tables, we can compute the likelihood of a person surviving up a particular age by dividing the Number of Survivors at exact age x by the same number at an earlier age. For example, the chance that a 55-year old male will survive to the age of 90 is:
I90/I55 = 24,137/95,636 = 25.24%
We now can value the CPF Life Scheme for a 55 year old setting aside the Full Retirement Sum.
To find the present value of a future payment at the age of 90 say, P90, we discount this payment for the time until the receipt of the payment. For a 55 year old person, the value of this payment at the age of 90 (i.e. in 35 years time) is:
Present Value = P90 / (1 + Discount Rate)t
where t = 35 years, and Discount Rate = 4.27%. For an annuity, the payment at age 90 is only received if the person survives until age 90. Hence, we need to further adjust this by the likelihood of this payment happening, which is 25.24% for a male, as computed earlier. In the case of CPF Life, there is also a bequest payable if he/she passes away in the same year. The likelihood of this bequest being received (by the nominees, of course!) is the chance that the person survives until age 90 (which is 25.24%) and the chance that he/she then passes on in the same year q90, which is 14.73% from the life table above.
Putting things together
Let’s compute the present values for the payments in the future at different ages for a male aged 55 years today. We assume the CPF Life payment is at the higher level projected by the CPF Board. We also assume all the CPF Life’s payments for a particular year is paid at the start of the year. And if someone passes away, it happens at the end of the year (so he receives both the payments and bequest).
| Age x (Years) | CPF Life Payout (month) | CPF Life Bequest | Chance of living to age | Chance of dying at age |
|---|---|---|---|---|
| P(x) | B(x) | l(x) / l(55) | q(x) | |
| 65 | $1,549 | $274,204 | 93.43% | 1.101% |
| 70 | $1,549 | $181,211 | 87.25% | 1.859% |
| 75 | $1,549 | $93,736 | 77.63% | 3.108% |
| 80 | $1,549 | $9,671 | 63.74% | 5.308% |
| 85 | $1,549 | $0 | 45.37% | 8.923% |
| 90 | $1,549 | $0 | 25.24% | 14.730% |
| 95 | $1,549 | $0 | 11.94% | 23.240% |
| 100 | $1,549 | $0 | 1.86% | 35.630% |
| Age x (Years) | Expected CPF Life Payout (year) | Expected CPF Life Bequest | Present Value |
|---|---|---|---|
| P(x) x l(x) / l(55) | B(x) x l(x) / l(55) x q(x) | ||
| 65 | $11,432 | $1,857 | $13,289 |
| 70 | $8,662 | $1,570 | $10,232 |
| 75 | $6,253 | $980 | $7,233 |
| 80 | $4,165 | $115 | $4,280 |
| 85 | $2,406 | $2,406 | |
| 90 | $1,086 | $1,086 | |
| 95 | $328 | $328 | |
| 100 | $53 | $53 |
If we do this for every single age starting from 55 onwards, and sum up all the present values, we get the value of the CPF Life for a person aged 55. What do these values look like? These are below:
For Males:
| Full Retirement Sum Plan $176,000 | Present Value at Age 55 | % Value form Monthly Payments | % Value from Bequest |
|---|---|---|---|
| Standard | $163,244 - $178,416 | 82.4% | 17.6% |
| Basic | $173,267 - $188,753 | 70.7% | 29.3% |
| Escalating | $148,482 - $174,448 | 80.2% | 19.8% |
For Females:
| Full Retirement Sum Plan $176,000 | Present Value at Age 55 | % Value form Monthly Payments | % Value from Bequest |
|---|---|---|---|
| Standard | $160,954 - $177,469 | 89.1% | 10.9% |
| Basic | $170.598 - $187,226 | 79.6% | 20.4% |
| Escalating | $155,082 - $172,400 | 87.2% | 12.8% |
Now, these values are the average values to the entire cohort of males and females under the CPF Life scheme. They can be very different for each individual, depending on when the person passed away. A longer-lived person would get more benefit and value than a shorter-lived one. This is the nature of annuities and longevity risk pooling. The tables following provide another view of the present value of CPF Life, depending on how long the person survived:
A longer-lived person gets more benefit than a shorter-lived one, as is the nature of annuities & longevity risk pooling
For Males:
| Age of Death | Full Retirement Sum Standard Plan | Full Retirement Sum Basic Plan | Full Retirement Sum Escalating Plan |
|---|---|---|---|
| 75 | $131,822 - $149,148 | $171,180 - $187,431 | $125,176 - $143,985 |
| 80 | $157,937 - $174,621 | $169,644 - $186,698 | $147,584 - $164,781 |
| 85 | $179,125 - $198,047 | $168,348 - $186,553 | $173,762 - $194,008 |
| 90 | $196,315 - $217,054 | $178,140 - $197,608 | $197,213 - $220,189 |
For Females:
| Age of Death | Full Retirement Sum Standard Plan | Full Retirement Sum Basic Plan | Full Retirement Sum Escalating Plan |
|---|---|---|---|
| 75 | $127,492 - $145,612 | $168,559 - $184,534 | $122,296 - $139,769 |
| 80 | $146,776 - $162,897 | $166,497 - $183,247 | $134,144 - $150,357 |
| 85 | $166,467 - $184,750 | $164,702 - $182,710 | $157,936 - $177,024 |
| 90 | $182,443 - $202,481 | $172,214 - $191,411 | $179,249 - $200,911 |
What can we conclude?
What do these values for the tell us? Is CPF Life a worthwhile investment? There are a number of conclusions:
- We need to see if the inaugural cohort in the CPF Life scheme gets the higher payout projected. Only at this higher level of payouts is the CPF Life Scheme worth the Full Retirement Sum. In other words, if the payouts under CPF Life are less, the CPF Board has replaced the Retirement Sum Scheme with something that is of lesser value in practice.
- A significant amount of the value of CPF Life is for bequests, which diminish over time. In the worst case, the bequest disappears exactly when a CPF member passes away, leaving little or nothing to his/her loved ones. So even while the Basic Plan has a higher present value compared to the Standard or Escalating Plans, the additional value comes form the bequests which may not be paid out ultimately.
- In an annuity scheme, those who live the longest gain the most. In the case of CPF Life, it is the lucky 50% who live past their life expectancy who will gain. Therefore, CPF members in poor health before the age of 65 (which could reduce life expectancy by 3 years or more), should choose a Plan which maximizes the value to them and their loved ones given their expected lifespans.
These conclusions should not detract from the fact that the CPF Life scheme is a valuable addition to the retirement planning tools and products, which have been lacking in many aspects previously, available for CPF members. However, there is still room to improve in terms of product design, communication, and understanding of the CPF Life Scheme for the benefit of CPF members. It is in this spirit that we present these conclusions.
One common question is for those born before 1958, and who have a choice upon reaching the age of 65 to enroll in either CPF Life, or the Retirement Sum Scheme, how should they choose? As we have shown above, both options are actuarially fair. The value of what you expect get out of them is exactly the value of what you put into them. However, both in terms of hedging against outliving resources, and providing a bequest for beneficiaries, CPF Life does better, thanks to the addition of the returns to mortality risk!
Other resources
Other perspectives on the returns on CPF Life:
- Which CPF Life Plan Gives the Greatest Return? by Investment Moats
- CPF on FIRE: CPF LIFE, what’s the optimal approach? by FIRE Path Lion
- Is the CPF LIFE Escalating Plan the best plan?
Hi, I really appreciate your insightful analysis on whether CPF Life is a worthwhile investment. I have learnt a lot from it. For people born before 1958 who are on the old Retirement Sum Scheme but have the option of converting to the CPF Life Scheme before the age of 80, would it be beneficial for them to defer the drawdown age to 70 and also, should they convert to CPF Life Scheme at all? If so, should they do so as early as possible or as late as possible? I would be very grateful if you could do an analytical article explaining these issues. Thank you very much in advance.
Hi Victor!
Thanks for your interest in my research and writing!
With regards to your questions:
1) Should you convert to the CPF Life scheme? My take is yes, since a person in his early 60’s actually has a 26% chance to living past the age of 90, and CPF Life is the best hedge against running out of money at that age. Moreover, as we grow old, our mental capacity and ability to manage our money diminishes, so having something guaranteed to payout month after month is an advantage.
2) Should you defer the CPF Life payouts to age 70? My answer (actually in the blog as well see CPF Life: Should I defer the payouts to age 70?) is no. The additional 7% increase in the payout amount is not enough to compensate for the fewer years we have to get paid. For example, in the US (where the life expectancy of people in their 60’s is similar to Singapore), Social Security payouts increase by 8% for each year deferred, so more than what CPF Life gives.
Hope this is helpful!
Thank you for your very prompt reply. Yes, I have read that equally good article on why we should not defer our drawdown age to 70 IF we are on CPF Life. However, I am on the old RSS as I was born in 1956. Our RSS is designed to last till the age of 90. RSS pays accrued interest into our own RA whereas CPF Life pays accrued interest into the CPF Life common annuity pool to benefit those who live longer. Since I have the option to convert to CPF Life before the age of 80, I figure that if I am still alive and feel relatively healthy at close to 80 years of age, then it would still not be too late to convert to CPF Life to guard against longevity risk although I am likely to have a lower monthly payout. Do so will let me have the best of both worlds – receiving accrued interest up to the age of 80 as well guarding against longevity risk after 80. It would be good to have your professional view on whether my thinking is correct.
Hi again Victor!
You raise a very interesting question, whether people on RSS should switch to CPF Life and when they should do it. To be honest, I have not thought about this before, and it might be worth doing a blog post on this question next month.
But from a very rough point of view, I think you have gotten it correct, the best time to switch is sometime between the age of 75 to 80. I believe this is so for 2 reasons:
a) As the CPF Life Standard Plan pays out a bequest up to the age of 80, what this means is that the RSS and CPF Life are very similar up to that age. Basically, you are paying for the monthly payouts out of your own CPF savings. After the age of 80, CPF Life becomes a true annuity, which can run forever, while the RSS remains a savings/withdrawal scheme, paying you out of your own savings. In terms of monthly payouts, an annuity will always be better than savings (although it will leave you with nothing for your heirs if you pass away)
b) If you look at the returns to an annuity, you will notice that the returns to longevity start rising very quickly after the age of 75-80. This is the way an annuity works – the money left over by those who pass away are distributed to those who survive, and during this period, the longevity returns will far outstrip the 4%-6% the CPF pays out to the people on the RSS.
Hence, it looks like your plan to switch over before the age of 80 is a good one!