You will be able to judge whether an SRS contribution is likely to leave you better off.
After three lessons on SRS, Darren had a clear picture of how it worked and still no answer to the question his staffroom argued about every December. Was it worth it for him? His sister Shu Ting was asking the same thing about herself, and their answers turned out to be different for a reason that fits in one sentence.
SRS saves you tax when the rate you save on the way in is higher than the rate you pay on the way out. This lesson unpacks that sentence and shows how to apply it to yourself.
The first rate is your marginal rate now, in the year you contribute. Lesson 4.1, How SRS works and who it suits, showed that each dollar of contribution saves tax at that rate, as long as it doesn't cross into a lower band.
The second rate is the tax you'll pay on the money when it comes out, as a share of everything you withdraw. Call it your effective withdrawal rate. It depends on two things from lesson 4.3, The tax on withdrawal, and what early withdrawal costs: the share of each withdrawal IRAS treats as taxable, and the rate that taxable part is taxed at in the years you withdraw. If you spread your withdrawals and have little other taxable income in retirement, much of the taxable part may fall in the zero band, and your effective withdrawal rate can be very low, even zero.
Here's the useful result. Suppose the money is invested the same way inside SRS as it would be outside. Then the gain from SRS, compared with investing the same income outside after tax, works out to the difference between those two rates, applied to the grown balance. If the rate now is higher, SRS wins. If they're equal, it makes no difference. If the rate later is higher, SRS costs you.
Take example figures for both. Each contributes S$10,000. The money grows at an assumed 4% a year for thirty years, which multiplies it by about 3.24, so the balance reaches about S$32,434. Both expect an effective withdrawal rate of 1.5%, also an assumption, so about S$487 of the balance goes in tax on the way out, and S$31,947 is left.
Shu Ting's marginal rate is 6% under the practice table. Without SRS, her S$10,000 of income would have been taxed at 6%, leaving S$9,400 to invest outside. At the same 4% for thirty years, that grows to about S$30,488. SRS leaves her S$1,459 better off.
Darren's marginal rate is 3%. Without SRS, he would have S$9,700 to invest outside, which grows to about S$31,461. SRS leaves him S$486 better off. The rate gap is 1.5 percentage points for him, against 4.5 for her, so his gain is a third of hers.
And that S$486 is for thirty years of locked money. Darren gives up the option to use S$10,000 for a home, a career break or an emergency, without a penalty, until his statutory retirement age. For a small gain, that's a real cost.
A few situations make SRS hard to justify on tax alone.
If your chargeable income is in the zero band, a contribution saves you nothing now. If your withdrawals later are taxed at anything above zero, SRS costs you money.
If you're in a low band now and expect a decent income in retirement, from rental income, say, the two rates may be close, and the gain small.
If there's a real chance you'll need the money before your statutory retirement age, the early withdrawal rules can turn a tax saving into a loss: the whole amount taxable, plus a penalty.
If you'd leave the money in cash, lesson 4.2, What to hold inside your SRS account, showed that inflation can take far more than the relief gave.
If you're a foreigner, or you might leave Singapore before retirement, check one more thing. How your SRS withdrawals are treated depends on your situation at the time you withdraw. That includes whether you're still a tax resident, whether you've held the account long enough to qualify for the exception IRAS gives foreigners, and whether tax is withheld from withdrawals made while you're a non-resident. Your new country may also tax the money. Read the IRAS pages on SRS for foreigners before contributing, and if the sums are large, ask a tax adviser.
Shu Ting's colleague Arjun, from lesson 1.2, Tax residency and what it changes, read those pages and decided to wait until he knew whether he'd stay.
Darren concluded that at 3%, SRS didn't do much for him yet. He'd revisit it when his income rose or when he had a clearer idea of where his own retirement money should sit. Shu Ting, at 6% and with her emergency fund in place, thought SRS looked worth modelling properly, which lesson 4.5, Model one SRS contribution over its life, does.
How to time withdrawals in retirement is covered in Retirement & Estate: income for life and a plan for what you leave. For now, write down your two rates for the activity: your marginal rate today, and your honest guess at the rate you'll pay on withdrawals.
Write your marginal rate now and the rate you expect on withdrawals, and whether SRS looks worth it.
Junxiong-WFG Organisation is an authorised representative of AIA Financial Advisers Private Limited (Reg. No. 201715016G).