Last Updated on 1, May 2018
This article is obsolete. See the following article for the updated one: HERE.
Question: "Wilfred, can you take a few minutes to look at an example of a CPF life annuity plan generated using the CPF LIFE Payout Estimator? A typical screenshot is as attached. Look at the big gap between the bequest amount and the little difference in the monthly payout. Did I overlook something as the Basic plan seem much more 'superior' than standard plan." - From AM Tan (a financial adviser)
Answer: Yes, the CPF Life Basic plan appears to be more superior.
CPF Life Present Values
To compare the two plans, I calculate present values based on the discounted cash flows (i.e. payouts) and the bequest. The discount rate used is the assumed interest used when generating the illustrator.
I calculated that the present values at age 65 of all the combination shows that the CPF Life Basic is significantly better than CPF Life Standard. Below is the table of calculations. In the table, I calculated that the PV at age 65 for CPF Life Basic is more than the equivalent combination of the CPF Life Standard. For example, comparing row number 2 to row number 5, it can be seen that the PV at 65 is $151,280 and $221,111 respectively. You can see that the former is much less than the latter.
Of course, if the CPF Member lives up to age 95, the CPF Life Standard is superior. There is no need to do any calculation since the ending value is zero for both plans and yet the monthly payout from CPF Life Standard is higher compared to CPF Life Basic.
| No. | Plan Type | PMT | FV | End age | N | R | PV at 65 | R between 55 to 65 |
|---|---|---|---|---|---|---|---|---|
| 1 | Standard | 1071 | 46506 | 75 | 120 | 3.75% | $139,350.70 | -0.60% |
| 2 | Standard | 1190 | 53038 | 75 | 120 | 4.25% | $151,280.47 | 0.22% |
| 3 | Basic | 1024 | 157901 | 75 | 120 | 3.75% | $211,244.27 | 3.62% |
| 4 | Basic | 1024 | 76007 | 85 | 240 | 3.75% | $209,198.72 | 3.52% |
| 5 | Basic | 1141 | 167107 | 75 | 120 | 4.25% | $221,111.01 | 4.10% |
| 6 | Basic | 1141 | 79566 | 85 | 240 | 4.25% | $218,971.16 | 4.00% |
To further analyse the plan, we know that the PV at age 55 must be $148,000 in all combination because this was the amount available at age 55 when generating the above screen capture of the illustration. There is a small ‘bonus’ of $3300 which I ignore for the time being. What I want to calculate was what is the discount rate applied between age 55 to 65. For example, for CPF Life Standard (row 1), the discount rate used was (139350.70/148000)1/10 – 1 = -0.60%pa. Using this method, you will notice that the discount rate for CPF Life Standard is nearly 0% from age 55 to 65 (row 1 & 2). On the other hand, the discount rate applied for CPF Life Basic is only about 25 basis points below the assumed interest rate. I do not have the exact answer why this is so but I notice that for CPF Life Standard, the entire CPF Retirement Account (CPF RA) is used to purchase the annuity. To be exact, under the CPF Life Standard, the premium is a two installment premiums. The first premium is payable at age 55 and the second premium payable one to two months before turning 65. Theoretically when both premiums are paid, the CPF RA will no longer have any funds left. The CPF Life annuity will start at age 65.
On the other hand for CPF Life Basic, not all the entire CPF RA will be used to purchase the annuity. An amount will still be left in CPF RA which will be drawn down from 65 until age 90. From 90 years old onwards, the CPF Life annuity will kick in. Hence, under CPF Life Basic, it is a deferred annuity starting at age 90.
Possible explanation why CPF Life Standard returns are poor
I speculate that the ‘poor’ returns of CPF Life Standard is due to the fact that all of the CPF RA is being invested into the common insurance pool while only a small amount of CPF RA under CPF Life Basic goes to the insurance common pool. The seemingly poor return is probably due to the ‘penalty’ of early exit from the pool in order to help subsidise the remaining in the pool who live too long. This is how insurance works through risk pooling. Unfortunately, we do not know whether this risk pooling is efficient as there is no further benefit illustration available.
Nevertheless, the present values gap between CPF Life Standard and CPF Life Basic is too large to ignore. It is difficult to determine what are the ‘fine prints’ for such a large discrepancy between CPF Life Basic and CPF Life Standard as there is no policy contract available unlike a traditional annuity plan available from private insurance company.
It is important to note that the CPF Life Standard is the default plan. This means if the CPF Member do not do anything, the CPF Member will be automatically opt-ed into the worst of the two plans! Of course, if the CPF Member thinks he will live up to age 95 and beyond, the default CPF Life Standard is the better option.
If you want find out more about CPF Life, may I invite you to download the Full Report on CPF Life just updated as at 22 June 2017. This report is available to subscribers and will answer the following questions:
- Can I still service my housing loan using CPF after I turn 55?
- Can I choose how much of my savings to use for CPF LIFE?
- Can I pledge my property?
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