Fund tax lure may not be enough

How long will S$86,000 ($49,640) last, the equivalent of 32 months' average salary in the Lion City?

The Singapore parliament was recently told that's the median balance of the country's Central Provident Fund (CPF) for people aged 55. With the CPF account yielding an interest of just 2.5% at present - statutorily, the lowest that they can get - something has to be done.

In the past two weeks, the Ministry of Finance has been releasing details of a new pension plan that encourages workers to top up their retirement savings. Called the Supplementary Retirement Scheme (SRS), it will be implemented on top of the current CPF next year.

The proposed scheme is voluntary and has no employer contribution component. Maximum monthly contribution is S$6000. Workers are free to choose the frequency of contributions and at what rate, within the prescribed range.

But the most attractive of all is that contributions are tax-deductible and withdrawals after retirement are taxed at the personal marginal tax rate then, representing a likely tax windfall for most workers.

As pension schemes go, they don't come any more investor-friendly than that. Or do they?

Challenges ahead

One of the main features likely to raise concern among workers is that the principal invested in the fund is not guaranteed.

Although it is a common feature in most pension schemes around the world, Singaporeans have reasons to be worried - as Davinder Singh MP told parliament this month, the CPF's real rate of interest from 1987 to 1998, after inflation, was zero.

Also, withdrawals from the fund cannot be made before the retirement age of 62 or a penalty charge of 10% on the withdrawal will be applied. Under CPF, withdrawals can be made after 55.

Given the CPF's current performance, investors may need to make a big leap of faith before committing money to the new scheme and have their assets locked up until they are well on the threshold of their twilight years.

For financial institutions, SRS is also a paradox.

The government has said there will not be a central Government body like the CPF board handling the SRS accounts. Banks are the most likely operators to be appointed by the government to take contributions from workers. But there are two issues involved in such an arrangement.

First is the number of people who can afford to put money into SRS on top of their CPF contributions.

According to the CPF board's own figures, only 40,000 Singaporeans in the 51-55 age group have more than S$150,000 in their CPF accounts. But the actual cash element is probably much less as that amount also includes money already withdrawn for housing and investments made outside the CPF.

If the number of people making SRS contributions is too small, banks may find the business unprofitable because of the administrative costs involved.

Also, fund managers may be disadvantaged in the race to be SRS operators where capital adequacy is concerned.

Raymond Lim, chief economist of ABN AMRO Asia Securities, says only if fund managers are included in the scheme of things will investors have a true investment choice.

If fund managers are left to run commercial pension plans only, they may lose clients to SRS operators as investment in commercial plans is not tax deductible.

Lim also suggests the tax on SRS should be waived entirely as is the case with CPF.

The Singapore government is currently consulting the pension industry participants on the new scheme.