By Ian Lim, Consultwho.sg
It is approaching the end of the year, and many local banks are running promotions enticing customers to open Supplementary Retirement Scheme (SRS) accounts in exchange for shopping vouchers. The SRS is a useful scheme, and we encourage everyone to find out more - not just for the shopping vouchers, but because of the scheme's usefulness in retirement planning.
Although the SRS is useful, there are some important caveats everyone should know. In this article, we'll share some information about the SRS but more importantly, we'll share information about some of the scheme's limitations.
What is the Supplementary Retirement Scheme (SRS)
The SRS is a scheme that rewards individuals who are able to set aside a sum of money until retirement. Individuals who contribute to their SRS account pay less tax at the point of contribution, and pay less tax when they withdraw SRS funds at retirement.
1. SRS accounts have extremely low interest rates
Funds in an SRS account earn the market interest rate, which is currently around 0.05%. This is an extremely low level of return that is greatly eroded by inflation, which can lie upwards of 2%.
Inflation erodes the value of money so that SRS funds worth $300,000 today may only be worth $240,000 at retirement, 20 years in the future. To maximize future return, funds in the SRS account should not be left idle.
SRS funds can be used to invest in a wide range of products such as securities, unit trusts and time deposits. Direct property investments and certain types of insurance products are not allowed.
Using SRS funds to purchase products can result in higher returns, but care should be taken to ensure a balance of risk and return. Products such as unit trusts offer a potentially higher rate of return compared to time deposits, but at the cost of higher risk. Care should be employed when investing SRS funds, so that one does not lose hard earned retirement savings.
2. Losses in an SRS account cannot be replenished
Contributions to an SRS account are currently capped at $15,300 yearly. If an individual is 20 years away from retirement and contributes yearly without fail, the total maximum value of his or her SRS contribution is $15,300 X 20 = $306,000.
If an SRS account suffers investment losses, they cannot be replenished beyond the yearly contribution of $15,300. For this reason, it is important to carefully weigh the risk and reward of employing investments to grow SRS funds.
3. The more you earn, the more you save
Singapore has a progressive tax system that imposes an income tax rate based on an individual's income. The income tax rate can be as high as 20% on incomes above $320,000, and just 7% on incomes of $40,000.
Every dollar contributed to an SRS account reduces tax payable by a dollar. Because of our progressive tax system, this means that tax savings will be greater at higher income levels.
At an income level of $100,000, contributing the maximum amount of $15,300 to an SRS account will save $1,760 in taxes. At an income level of $40,000, contributing $15,300 will save $456 in taxes.
Although the tax savings from the SRS can be attractive, the catch is that funds in the SRS cannot be withdrawn without penalty until an individual reaches retirement age.
4. SRS funds cannot be withdrawn without penalty until retirement age
Funds in an SRS account cannot be withdrawn without penalty until an individual reaches the statutory retirement age that was prevailing when the first SRS contribution was made.
This means that if the first SRS contribution was made today, the current statutory retirement age of 62 will apply to the SRS account, and the account holder will be able to withdraw funds from the SRS account without penalty when he or she turns 62.
If SRS funds are withdrawn before turning 62, there will be a penalty of 5% on the withdrawal amount. In addition, 100% of the withdrawal amount will be subject to tax.
The 5% penalty can be avoided in the case of death, bankruptcy, or medical reasons. Foreigners can avoid the penalty if their SRS account has been maintained for at least 10 years from the date of first contribution.
This article first appeared on Consultwho.sg
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