How to save on income tax [Dec 2020 update]

Source: Pexels / Skitterphoto

All figures are on the assumption that you earn $120,000 per year.

I. Open an SRS account and transfer $15,300 in [link].

• Tax saved: $1,759.50 (11.5% of $15,300)
• Downside: money is stuck in SRS account. But don’t just let it sit there. Invest it in something long-term. Why? Because you can start to withdraw it from the age of 62 (the present retirement age). You pay taxes on 50% of the amount you withdraw, but if you are retired with no income, you pay even less or no taxes on the withdrawn amount.
• I cannot emphasis enough the importance of actually investing funds in your SRS account. The interest rates for SRS accounts are negligible (0.05% per annum). But the idea is to use the money in the SRS account for long-term investments that you do not intend to cash out until retirement. Even if the investment returns are only middling, remember that you are saving 11.5% in taxes, which is huge.

II. Transfer $7,000 to your CPF Special Account (SA) [link].

• Tax saved: $805 (11.5% of $7,000)
• Downside: money is stuck in SA. But you get 4% interest per annum. And when you hit 55, if your Ordinary Account (OA) + SA exceeds $181,000 (the “Full Retirement Sum” as of 2020), you can withdraw the difference. Yes, $181,000 is a lot of money. Yes, it’s a moving target and if you’re around my age, the Full Retirement Sum is probably going to be something like $400,000 by the time we hit 55. But if you have around $73,000 in your SA at the moment and you contribute at least $8,400 per year (CPF’s automatic allocation of 7% of your $120k salary anyway), you are likely to hit $400,000 in 20 years.
• I know that many folks are adverse to voluntary CPF top-ups. I used to think that there was no point in making voluntary CPF top-ups. I saw it as a black hole that I would never be able to recover funds from. However, if you would like to leave something to to your descendants, or to charity, when you pass on, consider this seriously. You can nominate them to receive your CPF savings when you pass on. This means, for example, that you can plan to leave less cash to your descendants, in the knowledge that they will be able to receive cash from your CPF nomination. More on how it works here. More on CPF nomination here.

III. Transfer $7,000 to your parent’s/spouse’s SA/Retirement Account. This stacks with II above, for a total of $14,000.

• Tax saved: $805 (11.5% of $7,000)
• Downside: you’re giving the money away to someone else, and it goes to their CPF account (as opposed to being cold hard cash that they can spend). This isn’t for everyone.
• If you intend to make a transfer to your spouse, you only get tax relief if your spouse is earning $4,000 or less for the year. So you can’t save on taxes by making a transfer to your spouse, unless you’re the main breadwinner.

IV. Voluntary CPF top-up.

• This is tricky and will depend on whether you are an employee, or self-employed.
• If you’re an employee, you’re already putting in the maximum of $37,740 into your CPF every year. So don’t bother reading further.
• If you’re self-employed (you know who you are), you have compulsory Medisave contributions of $5,760. So you can theoretically top up a further $31,980. But don’t get too excited yet. You would not save $3,677.70 in taxes, because with the deductions of $15,300 + $7,000 + $7,000 = $29,300 above, if you top up so much, you’re going to get bumped down into the next tax bracket of 7%.
• But if you agree with the point I made at II above, that CPF contributions are not wasted, you should seriously consider this. The tax savings are significant. On the other hand, if you think you are going to need liquid funds in the near future, you may want to limit your voluntary CPF top-up amount.
• You should do voluntary CPF top-ups at the beginning of the year, to maximise returns from the CPF interest rate. If you have yet to make any CPF contributions this year, consider making a contribution in December 2020 (for tax deductions for YA 2020) and January 2021 (for tax deductions for YA 2021).
• This stacks with II and III above.

V. Donations to Institutions of A Public Character (IPCs) [link].

• Donating to an IPC allows you to claim 250% tax deductions. For example, if I donate $1,000 to Methodist Welfare Services, I can claim $2,500 in tax relief. This is massive.
• If you have a yearly donation goal / target anyway, consider this seriously.
• Tax deductions under this section are not subject to, and do not add to, the personal income tax relief cap of $80,000.

VI. Thank you for your contribution to nation building.

Edit: P.S. this is not legal advice, for general information only, etc etc, you know the drill.