How to save for retirement while you still have debt

Being in debt shouldn’t stop you from thinking about the future.

Here’s how to take a balanced approach, and manage your retirement plans even as you pay off your debts.

“Good” vs “bad” debt

Not all debt is equal.

In general, "good debts" are any debts that can help you increase your net worth over time or generate future income. These can include your mortgage or education loans.

"Bad debts" on the other hand, not only don’t help you generate future income, but also may come with high interest rates, like credit card debt or personal loans.

1. Prioritise clearing off your “bad” debts as soon as possible

In general, credit card interest rates are around 24 to 26 per cent per annum, whilst most (not all) personal loans are at six to nine per cent per annum. In contrast, the interest rate for a property loan is around 2.5 to 3.5 per cent currently.

Because credit cards and personal loans have much higher interest rates, it’s important to resolve them as soon as you can. The longer you let these loans carry interest, the harder it becomes to save for retirement.

Meanwhile, pace your monthly repayments for low-interest “good” debt, rather than taking the high-risk step of trying to pay it all off at once. For example:

Say your property loan - at a low 2.6 per cent per annum - constitutes only 30 per cent or less of your monthly income. It might be unwise to try and pay back a huge amount, such as half of your monthly income, to pay this off sooner. If you’re caught without cash in an emergency, and have to use personal loans, the resulting debt will be even worse than your property loan rate of 2.6 per cent.

As an aside, note that private bank home loans may impose a penalty on attempts to repay your home loan early, depending on the terms and conditions (the penalty is often around 1.5 per cent of the undisbursed loan amount).

Read more: Financial literacy #5: Debts and diversification

2. Contribute to retirement savings as and when you can, even if the amount is small.

Even while paying down debt, it’s important to still contribute something—however small—to your retirement savings.

For example, consider using voluntary contributions to your CPF retirement account. Factoring in CPF’s tiered interest rates, here’s how your savings would grow if you top up just $100 per month from age 21:

• By age 55: ~$79,502 (This assumes 5 per cent interest on the first $60,000 and 4 per cent thereafter.)
• By age 65: ~$129,568 (From age 55 to 65, CPF pays up to 6 per cent on the first $60,000. This projection uses CPF’s extra 2 percent on the first $30,000, 1 per cent on the next $30,000, and 4 per cent on the remainder.)

So don’t worry if the amount you can save isn’t huge: even a little bit can amount to a significant sum, over a period of decades. Some insurance plans also have a savings component to help with that. For example, some retirement income plans can pay out up to 5.4 times the premiums you paid.

Read more: Increase in voluntary CPF top-ups : for retirement planning

3. Take advantage of other government policies to enhance your retirement

If you’re forced to start saving later, due to debt earlier in your life, there are ways CPF can help. One example of this is the Matched Retirement Savings Scheme (MRSS).

The MRSS is available to Singaporeans aged 55 and older. Under this scheme, the government will match you dollar-for-dollar, for every voluntary top-up you make to your CPF Retirement Account (RA). For example, if you voluntarily top up $500 to your CPF RA, the government will put in another $500, so you get $1,000 instead.

This is up to a limit of $2,000 per year, or up to $20,000 in your lifetime. Your CPF RA can accrue at up to 6 per cent per annum, so this can help you to catch up even if you start saving late.

Read more: How to maximise your CPF savings

4. Keep maintaining your emergency fund despite your debt

An emergency fund should consist of six months of your expenses. It may take time to build this, but it’s essential for emergencies. If you’ve accumulated savings in such a fund, avoid spending all of it at one go to accelerate debt repayment.

For example, if you have a fund of $10,000 saved up, and you’re $20,000 in debt, pouring all of your emergency funds to clear your debt will still leave you $10,000 short; and when you get into an emergency, you’ll have nothing available. This could lead to borrowing yet again.

This can lead to a vicious debt cycle, where you’re constantly borrowing, wiping out your savings to repay the debt, and then incurring a new debt. This can inhibit your ability to save over time, and badly affect your retirement.

So pay back what you can as best you can, but always ensure you still have some savings for emergencies.

Read more: 5 effective ways to build an emergency fund

5. Ensure proper insurance coverage, to avoid medically-related debts

It is very difficult to pay for certain serious illnesses out of pocket, such as cancer, heart attack, or stroke. If you’re not sufficiently covered, the resulting expenses could pressure you into borrowing, or clearing out retirement funds.

Consider proper critical illness coverage, so you can get a lump-sum payout in the event of a major illness. This will mitigate the need to take loans for medical reasons, or having to spend retirement savings prematurely. Some critical illness plans can even protect you repeatedly from the same illness (e.g., such as a second stroke, the return of cancer, and so forth).

Also consider that, if you don’t have critical illness coverage, the resulting expenses could cause you to delay or default on existing debt repayments. This will incur even higher interest, and potentially trap you in a debt cycle.

Read more: How can critical illness insurance protect your finances?

Finally, be sure to review your plans and progress at least once a year

It’s best to speak to a qualified financial representative, to ensure your debts are being paid down or managed in the right way. At the same time, a financial expert can ensure that you’re still on track for your retirement goals, via a balanced and diversified use of retirement savings.

Saving whilst still in debt can be frustrating: but by developing a systematic approach, and paying down debts the right way, it’s possible to become debt-free without sacrificing your retirement.

You can speak to a financial representative about retirement planning or view all our wealth products here.