Supplementary Retirement Scheme (SRS) – Good, Bad or Ugly?

Background

The SRS was introduced in 2001. Official figures from the Government show that while the take-up rate has been increasing annually, a relatively small percentage of the eligible population have opted for the scheme. 

From talking to peers, it seems that the SRS scheme is not well understood. A common (but misguided) reason given for not opting for the scheme is “I’ve got better investment opportunities elsewhere.”

It is important to know that the SRS is NOT an investment scheme but a savings scheme, and the main benefit it provides is from a tax perspective: Tax Deferment, i.e. paying one’s taxes at a future point in time rather than now.

Savings in the SRS account can be used to invest in a pretty wide range of financial assets including shares, insurance, bonds, unit trusts and fixed deposits, so unless the investor intends to use the money for investments other than those listed above, talk of “better investment opportunities elsewhere” should be a moot point.  

Perception of the SRS

When I was deciding on the scheme, I tried searching online for some discussion on the scheme by fellow Singaporeans but I found those to be sorely lacking in rigour. 

At website ifonlysingaporeans.blogspot.sg, a reproduction of a Straits Times article on the topic by Aaron Low was posted. Mr Low stated, “If a person with a chargeable income of $70,000 contributes the full $12,750, he could reduce his tax by $892 for the year.” 

The author then states that the tax savings work out to be about 6.9%. He concludes the point by saying, “you would have to get 6.9 per cent in returns on $12,750 if you invested that sum in the market just to match the tax savings.”

While this is a perfectly logical line of thought, this analysis does not paint the full picture for the “returns” under the SRS (these tax savings are, strictly speaking, not investment returns, but for facilitating discussion, let’s treat them as such for now). 

What about the SRS withdrawals at retirement age? In the same way that tax savings are considered “returns”, won’t these withdrawals be considered “losses”?

In another website salary.sg, the author gave a scenario where “…a contribution of $11,475 to your SRS account brings about a tax saving of $1,096. This is a yield of 9.6%.” The author then said, “…if you instead invest the $11,475 and achieve a mere 0.31% return per year, you will make slightly more than what you would have got from the SRS tax saving.” 

The author then concluded that unless one is extremely bad in investing, i.e. not being able to achieve more than 0.31% returns a year, one should not go for the SRS.

Again, my response to that is one can still invest in a wide range of products under the SRS, hence any “return” from tax savings is purely extra gravy.

Another oft-quoted reason for shunning the SRS is that it is reserved for the rich. This is not entirely accurate. While it may seem that way because any contribution to the SRS should be made using income that is disposable, it should be stressed that the SRS does not prescribe a minimum contribution amount. 

This means a Singapore taxpayer can utilize the tax deferment benefits under this scheme by contributing any amount that he/she is comfortable with, subject to the maximum cap. 

Finally, a common criticism of the scheme is that the SRS tax structure is a disguised form of capital gains tax. This point is valid because 50% of all SRS withdrawals, even those derived from investment capital gains, are subject to taxation. 

However, if the financial savings from tax deferment outweighs the capital gains tax one would pay under the SRS, then shouldn't the SRS be considered attractive?

Now what?

So have said all this, should one opt for the SRS? To answer this, we need to investigate if a person will end up with more money by paying for taxes later, rather than earlier. 

Let us take the example of an average Singaporean deciding on the SRS. This individual is 30 years old, and is in the $80,001-$120,000 income bracket. I assume this individual will move up to the next income bracket every 5 years and he makes a 5% return per annum on his investments. 

Let's see what he ends up with if he does not contribute to the SRS. Due to space constraint on the page, I can’t show the entire spread sheet here. For illustration, account balance from the first 10 years of contribution is,

And his account balance over the final 11 years of contribution is,
 
From my calculations, this individual will end up with approximately $1.32M at age 71 (which is the age at which the last withdrawal from the SRS can be made).

Let us now assume this individual contributes the maximum of $12,750 to the SRS account every year. This is what his account balance will look like over the first 10 years.



Let us now assume that this individual will spread his withdrawals out fairly evenly over the final 10 years, with each year’s withdrawal being equal to his remaining SRS account balance divided by the number of years left.

He still continues to invest each year's withdrawn amount. This is what his "Withdrawn account" balance looks like.

From my calculations,this individual would have ended up with $1.54M at age 71. that's a difference of approx. $220K!

Out of interest, I investigated how the account balance would end up if this individual was subject to the maximum tax rate of 20% when making the SRS withdrawals. My calculations show that the account balance would be $1.41M at age 71, still better than if the individual had not made the SRS contributions.

As a caveat, I have to stress that every individual’s final account balance will be different. However, it should be safe to say that ceteris paribus, most, if not all, Singaporeans should be better off financially with the SRS.

Where do I sign up?

Now before you rush out to your bank to open that SRS account, there are a couple more things to consider. 

The additional value that you will accrue from the SRS comes at a cost, mainly the loss of use of the SRS money, including any investment gains, until retirement age (premature withdrawals are allowed, subject to penalties). On the other hand, the scheme is a form of enforced savings, and tries to ensure that one has sufficient funds for retirement.

Since every individual’s subjective values of the loss of use and retirement funds are different, it is hard for me to say whether the SRS is good or bad with certainty. For me, I would think that the net benefits are positive for most Singaporeans.

Final thoughts

There can be many reasons for the poor take-up rate of the SRS. Perhaps the Government has not done a good job marketing this scheme. Perhaps the average Singapore is not savvy enough to analyse the pros and cons of this scheme and what it means to them. I am not sure. 

If the Government has intentions to encourage a higher take-up rate for the SRS, it should impose tax only on the amounts that were contributed, and not on the capital gains from SRS investments. After all, there is no capital gains tax in Singapore.