Something To Live By After 85

Source : Weekend TODAY, September 8, 2007

A little fine-tuning may make proposed annuity scheme more palatable

IF ONE were to examine it from a bigpicture view, it would be difficult to argue against the Government’s annuity proposal.

It is, after all, meant to provide Singaporeans with financial security in their twilight years. As many Singaporeans live longer, the annuity scheme will ensure that they will have at least a small monthly sum to live on, even after their savings in the CPF accounts dry up.

But I have two suggestions to make the plan — whose compulsory nature has upset some Singaporeans — more palatable.

First, a quick look at the proposed changes: The proposed life annuity scheme will pay a subsistence amount from the age of 85. A small part of the Minimum Sum from the CPF account will be taken at age 55 to pay for this scheme. To help ensure that CPF savings will last until a member’s 85th birthday, the draw-down age will be delayed by three years to 65.

I agree with the approach to stretch the Minimum Sum — which now stands at $99,600 — over the lifetime of the retiree, but find the draw-down-cum-after- 85 life annuity to be a complicated arrangement.

This will be made more difficult when the interest rate on the retirement account is pegged to a market benchmark. This may require the monthly draw-down to be adjusted regularly with changes to the interest rate.

I prefer a life annuity that pays a regular monthly sum from age 65. This income does not fluctuate with the interest rate and does not drop sharply to a subsistence amount after 85 years.

There is criticism that the payout from the life annuity is quite poor. This is caused mainly by the low interest rate that can be earned on secure government bonds. Currently, this rate is less than 3.5 per cent per annum.

The insurance company handling this has to incur marketing and administrative expenses. These expenses will have to be deducted from the payout to the annuitants.

If the life annuity is administered by the CPF Board and is credited with interest at 4 per cent per annum, the payout will be considerably higher and can be quite close to the amount payable under the draw-down scheme.

The life annuity provides the benefit of pooling of longevity risk. Those who die earlier will leave behind the balance of their money, which will be used to make the payout to those who live longer.

Everyone hopes to be the person who lives longer and continues to receive a payout from the annuity. This is possible only through the mechanism of an annuity.

In fact, the money in the annuity fund is not kept as a separate account for each individual member. They are pooled together in a common fund.

The compulsory after-85 life annuity applies only to CPF members who are now below 50 years old. They will buy the compulsory annuity when they reach age 55 in five years’ time.

In my view, it is desirable for the after-85 annuity to be made compulsory. In many countries, it is quite common for their citizens to draw a lifetime pension payable by the state or the employer, or both. The pension is similar to a life annuity.

The main objection to the compulsory scheme will come from people who are in poor health, and are likely to lose out due to an early demise. In that case, they can be given the option to pay an annuity plan that pays out a lower monthly sum, and refund the balance of their capital on early death.

Up to now, the public discussion on the life annuity scheme appears to be confined only on the investment of the CPF Minimum Sum.

We must not forget that many retirees have personal savings, apart from this CPF Minimum Sum. These savings have to be invested as well.

It is advisable for a retiree to invest a large part of the personal savings in a life annuity. By paying a lump sum, the annuitant will receive an attractive monthly payment for a lifetime. The amount of the monthly payment depends on:
•The amount paid to buy the annuity
•The future yield on the investments of the fund
•The future life span of the annuitant
•The expenses and profit margin of the insurance company.

An annuity provides two valuable services for the annuitant. It frees him from the hassle of investing the money for many years. It allows a pooling of the longevity risks, as the annuitants who die earlier leave behind the balance of their money to pay the monthly payment to the annuitants who live longer.

Compared to other forms of investments, the life annuity does offer, in most cases, a better return. The life annuity can offer some attractive options:
•Participating or non-participating plan
•Refund of balance of capital, in event of early death
•Deferral in the starting date of the payment

Each option affects the amount of the monthly payment. You have to consider which options suits you best. A financial adviser can help you to make the best decision.

The writer TAN KIN LIAN qualified as an actuary in 1975. He served as chief executive of NTUC Income for 30 years prior to his retirement this year.