The Singapore government has announced major changes to the Central Provident Fund (CPF) scheme this week aimed at discouraging workers from using a large part of their retirement savings on purchasing a home. The move could in theory release more than S$37 billion ($21.5 billion) for investment, with fund managers the most likely winners.

Singapore's retirement system may seem complex at first glance. But from the government's point of view it is designed to look after the whole adult life of its workers, from buying a computer and a home, to providing for childrens' education and retiring in reasonable comfort.

Under the current CPF scheme, each worker owns three major accounts: special, ordinary and medical. While money in the special account is locked up, earning a guaranteed return of 4% from the government, savings in the ordinary account can be used for various purposes, including mortgage payments and stock investment. The third, called Medisave, is for medical expenses.

From 1 January next year, workers' contributions to their special accounts and medical accounts will be increased, with a corresponding drop in contributions to ordinary accounts (see table below for new rates). In addition, money in the special account will be freed up for low risk investment, such as money market, fixed income and balanced funds. The government expects this alone could inject up to S$12.3 billion into the investment industry.

Minimum sum and investible savings

Changes made to special accounts also affect ordinary accounts in two main ways. First, under the current system workers need to maintain a minimum sum at all times between the special and ordinary accounts. But with the new rules allowing workers to invest all of their special account savings, the minimum sum requirement is effectively scrapped.

If a worker does not wish to invest, they may transfer money from the ordinary account to the special account, up to a maximum of S$80,000. Money in special accounts earns a 1.5% higher return than ordinary accounts.

Second, the current system allows workers to invest with what are called "investible savings". This is 50% of the combined amount of the special and ordinary accounts, including the money already withdrawn but excluding the minimum sum. Picking individual stocks is the most popular form of investment for workers using those savings, which the government now wants to curb. Money available for stock investments will be limited to 35% of investible savings, now redefined as the total amount in ordinary accounts alone, excluding any amounts withdrawn for housing.

The changes made to ordinary accounts will boost the money available for investment by S$25.1 billion to S$52.2 billion. Much of that money can only be invested in low risk funds. But profit withdrawal from investment will not be allowed from January next year for special accounts, and from 1 October 2002 for ordinary accounts.

Changes necessary

Lee Boon-yang, Minister of Manpower, says the changes are necessary to better reflect the workers' income and expenditure pattern and their ability to pay for housing. Pension experts see a danger in the trend that many workers are spending a large part of their retirement savings on purchasing housing, possibly creating a generation of retirees who are asset-rich but cash-poor. By increasing the contribution to special accounts, the government hopes that the level of cash savings will improve.

One question raised is whether workers can afford to own their own home after retirement. Monthly salaries in Singapore averages S$1,500. An average government flat costs around S$150,000. While the government has assured workers that government flats will "continue to remain affordable", its own figures suggest that as many as 106,000 families have insufficient CPF savings to service their mortgages. That number will increase to 141,000 under the new contribution rates.

Also, while investors can expect to see a flurry of low-risk investment products next year, the fund management industry may not be as big a winner as many think. Money in CPF special accounts can earn a guaranteed return of 4% each year without costing the workers a cent. The average return achieved by low-risk investment products such as endowment plans, semis and corporate bonds and fixed income funds is not necessarily higher than 4% after fees.

According to the government, an extra S$2.6 billion will be made available for stock investments because of the changes in investment rules for ordinary accounts. But brokers believe the ban on profit withdrawal from October 2002 is likely to make stock investment less attractive. In any case they do not expect the changes will have much of an impact on the stock market.

Original contribution rates for various CPF accounts, targeted to be restored over the next three years.
Current contribution rates are in brackets, temporarily adjusted following the Asian crisis.

Age
Contribution rates
TOTAL
Ordinary Account
Special Account
 Medisave Account
35 years & below
29
(24)
4
(2)
7
(6)

40
(32)

Above 35-45 years
26
(23)
6
(2)
8
(7)
40
(32)
Above 45-55 years
23
(22)
8
(2)
9
(8)
40
(32)
Above 55-60 years
11
(9)
0
(0)
9
(8)
20
(17)
Above 60-65 years
2.5
(2)
0
(0)
9
(8)
11.5
(10)
Above 65 years
0
(0)
0
(0)
9
(7.5)
9
(7.5)