A savings habit is more than a recommendation in Singapore; it’s intertwined with our way of life thanks to the Central Provident Fund (CPF). Our CPF accounts are the way the government ensures that every Singaporean has some form of savings.
Besides the automatic contributions made from our salaries, we are encouraged to top up our CPF accounts to ensure we have enough for medical and retirement needs. The government incentivises top ups through guaranteeing certain interest rates.
Generally, these interest rates are meant to match, or be better, than what banks and investments can provide, and keep pace with inflation. But is that really the case?
We took a deep dive into the interest rates offered by CPF to see how viable they are as reasons to invest more funds into our CPF accounts.
Interest rates for different accounts
Different annual interest rates apply for various CPF accounts. According to the latest interest rates, the Ordinary Account (OA) has a 2.5% rate, while the MediSave Account (MA) and Special Account (SA) both have a 4% rate. The Retirement Account (RA), which opens when CPF members turn 55, also has a 4% rate.
On top of that, if you are below 55, you get an additional 1% interest on the first S$60,000 of your combined balance (capped at S$20,000 for OA).
If you are aged 55 and above, you get an additional 2% interest on the first S$30,000 of your accounts’ combined balance (capped at S$20,000 for OA), and 1% on the next S$30,000.
These interest rates are pegged to investments with a comparable risk and duration.
Since the OA is a more liquid account which can be used for home payments and education, it has been pegged to the fixed deposit and savings rates of local banks. CPF reviews the OA’s interest rate every quarter, and bases it on the three-month average of major local banks’ interest rates, subject to the legislated minimum interest of 2.5% per annum.
The SA, MA and RA are regarded as long-term savings, to be tapped on as you get older. Hence their rates have been pegged to similar long-term, risk-free investments. The SA’s and MA’s interest rates, also reviewed quarterly, are based on the 12-month average yield of 10-year Singapore Government Securities (10YSGS) plus 1%, subject to the current floor interest rate of 4% per annum.
The RA’s interest rate is reviewed annually and takes into account the 12-month average yield of 10YSGS plus 1%, subject to the current floor interest rate of 4%.
In actuality, the government is guaranteeing an interest rate of 4% for MA, SA and RA until 31 December 2022 at least, regardless of the performance of 10YSGS.
How CPF invests and delivers interest rates
CPF funds are invested in Special Singapore Government Securities (SSGS), which are guaranteed by the government at the interest rates mentioned above.
However, some of these interest rates may seem too good to be true, especially when the economy is not doing well. How then does CPF ensure these returns?
The SSGS are pooled with the rest of the government’s funds, including surpluses and land sales proceeds, and are invested by the Government of Singapore Investment Corporation (GIC). GIC generally has a strong track record in terms of fund management, achieving an average annual return of 4.3% over the past 20 years. This is partly because alongside CPF funds, it invests assets that do not have liabilities, and hence can take on riskier ventures which may bring greater returns.
Nevertheless, even GIC’s rate of return has faltered during economic downturns. During such times, the government is still able to meet its obligations to CPF members through its buffer of net assets.
The fact that the government has significant assets ensures that it’s able to deliver on the promised CPF interest rates.
CPF interest rates vs banks, investments and inflation
Given that the government has pegged its interest rates to that of similar financial instruments, and guaranteed floor rates, CPF’s rates are generally hard to beat. This is especially true in the current low interest rate environment.
Fixed deposit rates, which the OA is meant to be compared against, currently range around 0.05% to 1.3% (using DBS Bank as an example). As for the MA, SA and RA, an equivalent longer-term, low-risk instrument – the 30-year Singapore Government Securities Bond – has a yield of 2.13%.
Higher-risk investments could possibly deliver better interest rates than CPF. However, these rates could fluctuate, unlike the consistent guarantee that CPF provides.
In terms of inflation, the interest rates generally still beat the latest core inflation rate in Singapore of 2.4%, though the OA’s rate only just exceeds this.
How CPF interest rates compound
What really helps your savings in CPF grow, however, is how it compounds. The CPF interest is calculated monthly and credited by 1 January of the following year. The interest then compounds annually.
What this means is that the earlier you contribute to your CPF accounts, especially your SA and MA, the more your savings will grow over time due to compounding interest.
CPF Investment Scheme as an alternative
If you think that you can beat the interest rates that CPF provides, you can also opt to invest savings in your OA and SA through the CPF Investment Scheme (CPFIS). After setting aside S$20,000 in your OA, or S$40,000 in your SA, you can invest any remaining funds in a wide range of financial instruments which include Unit Trusts, Endowment policies, and Treasury Bills.
Certain higher-risk investment options are allowed for your OA funds, but not the SA, such as property funds and shares.
While the CPFIS provides more diverse options for investing, and allows you to invest without fronting cash, you should keep in mind that it bears risks that leaving your money in your CPF accounts would not come with.
Read more: How To Invest Your CPF Savings
Through a combination of prudent investing and the backing of significant government assets, CPF is able to guarantee you healthy interest rates that help your money grow and compound over time. To maximise your savings through tapping on these rates, you can top up your SA, which will ultimately provide you with funds for retirement.
Read more: When Should You Start Planning for Retirement?