You might lose money in FD using your CPF.

Last week, i witnessed an unusual case. One of my client (Mr X) invested $100K of his CPF OA into a bank fixed deposit(FD) product last year. This FD pays 3.2% p.a. for 6 months. Compared this rate with CPF OA's 2.5% p.a. , it looks like a sure win situation (or is it?)

As usual, the devil is in the detail. Let me share with you this case.

1. If Mr X's $100K remain in CPF OA from Jan 2006 to Dec 2006.

Under CPF's rule, CPF interest rate is monthly rest. The effective interest rate per month is 2.5% /12 = 0.208%. Therefore, the interest per month for $100K is $208.

The total interest for 12 months is thus 12 x $208 = $2,500.

The total capital plus interest is therefore $100K + $2.5K = $102.5K

2. However, Mr X actually transferred $100K into FD (3.2% p.a. for 6 months) from Jan 2006 to Jun 2006.

The effective interest rate per month is 3.2% / 12 = 0.267%.

The interest per month for $100K is $267.

For 6 months, the interest is therefore $267 x 6 = $1,602.

When the FD matured on Jun 2006, the bank transferred the proceeds to the CPFIS and remain there for 2 months before it was being automatically transferred back into CPF OA on Sept 2006. While the money was in the CPFIS from July and August, the bank paid neligible interest close to 0%. Since the money was not in CPF OA, CPF did not pay the interest rate as well.

From Sept 2006 to Dec 2006, the total capital of $101,602 earned an interest of $845. This made the year end balance of this $100K capital to be $100,000 + $1,602 + $845 = $102,447.

The CPFIS bank also imposed $2 per FD transcation charge, and $4 service charge ($2 per quarter per counter).

The resulting balance is $102,447 - $2 - $4 = $102,441.

Let me bring back the earlier illustration if Mr X did nothing to his CPF OA, his $100K would have been $102,500!

The whole saga made Mr X a fool.

Lesson learnt:

a. When you invest your CPF OA, take note of the maturity date.

b. Transfer the maturity proceeds back to your CPF OA immediately. (Otherwise, this proceeds will sit in the CPFIS account for 2 - 3 months before the CPFIS bank transfers the proceeds to you CPF OA.)

c. You can effect the transfer immediately using ATM, internet banking, or go to the bank to fill up an instruction form for this purpose.

As to Mr X, he has since terminated all his dealings with this bank.

Setting Financial Goals.

In my professional observation, many people do not know how to begin setting financial goals.

A good way to begin is to sketch out your current family tree(s). Then analyze together with the 3 principal financial planning considerations :(1) Die Too Soon; (2) Live Too Long; (3) Prolonged Illness. Your financial resources and income can therefore be deployed meaningfully to address these considerations.

If you own a business, you should also think through business succession issues on above considerations.

In reality, few people can attain all their goals at one go; therefore you need to prioritize these goals according to their urgency and importance.

In working towards these goals with your assets and income, you might experience an initial “pain” in your life-style. This “pain” will be a small price to pay to discharge your responsibility and love, so as not to leave a “greater pain” for your loved ones, or yourself in your retirement or disability years.

Husband and Wife maintaining one joint account

I was servicing a couple on their financial planning matters, the husband asked me an unusual question: "Allen, me and my wife maintain one joint (cash) account. Is that sound?"

Being a married man myself, I must commend the courage of this man by just having a single joint account and put every cents of his pay cheque into this account faithfully every month. Sincerely, this is a commendable act of love, faith and trust.

From the financial planning point of view, there are some risks associated with such strategy.

1. One must ensure that the credit behaviour of both parties are good.

If either one of the joint account holders has credit or liabilities problems, the entire joint account can be exposed to creditor's claim. Liabilities can come not only from high consumption spending, but also from guarantor obligation and civil law suit.

2. Treatment as estate

If either one of the joint account holders dies. At least 50% of the joint account assets will be treated as estate of the deceased account holder. The bank has the right to freeze this account until the probate is cleared. This will present some practical problems for the surviving account holder

a. All GIRO linked to this account will be terminated.

b. Lawful creditors can lay claim onto this estate to recover their bills. For example, IRAS for income tax and estate duty; banks for outstanding credit card bills, mortgage and car loan etc; hospital for last medical expense prior to death of the account holder.

c. Surviving spouse might face liquidity problem as the account is (could be) frozen until the probate is cleared.

Therefore, one has to periodically review above risks and its financial impact to his/her family if both husband and wife maintain just ONE single bank joint account.

And for any man who chooses this strategy, you better love the woman you marry!

Alice in Wonderland and financial planning

In ALICE IN WONDERLAND, WHEN ALICE ARRIVES AT A CROSS-ROAD the Cheshire Cat asks, "Where do you want to go?"

Alice replies, "I don't know."

"Then any road will do," says the Cheshire Cat.

These simple lines illustrate the consequence of no planning (financial or otherwise). If one does not plan for an objective or direction, then any thing will do. Before you know it, you will be like an octopus on roller skates. There's plenty of movement but you never know if it is going backwards, forwards or sideways.

Many people shun to plan for their financial matters for 2 main reasons. Either they find financial planning too cold a subject to deal with, or they simply lack the courage to face the sad state of their financial affairs. Let me share with you a simple method I use.

(*I am an average joe. I earn a limited income, have debts to service, and bills to pay to sustain my wife and mother)

Step 1: I prioritize what matters most, and budget my limited resources to the following 8 planning goals:

1. Prepare for money emergency

2. Protect my income

3. Provide for my family (if I die too soon)

4. Secure my home

5. Defend my business

6. Preserve my assets (improve asset value, reduce debt)

7. Plan my investments to produce passive income eventually (if I live too long)

8. Help others (Priority: 1st: family members; 2nd: close friends; 3rd: a cause I support)

Step 2: Have a measurement system for these 8 planning goals.

For each of the 8 planning goals, I attach a simple scoring system by asking myself this question at the beginning of every year: "on a scale of 1 to 10, where am I last year for planning goal ONE." (1 being lousy, 10 being excellent).

I will repeat the same question for each of the 8 planning goal.

In area where there is progression of the scoring scale, I am glad(and thank God) that I am moving towards the right direction. In area where there is no progress, I review the problem.

This system helps me to focus and plan my finances to what's important with my limited resoruces (financial or otherwise).