I am a fresh grad and just got a job. Should I pay off my CPF education loan first or start investing? - Seedly

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Asked by Anonymous

Asked on 15 Jul 2019

I am a fresh grad and just got a job. Should I pay off my CPF education loan first or start investing?

My take home pay is about 2.2K and I have roughly 22k of CPF Education Loan debt. I have literally 0 knowledge on investment, just trying to learn here and there bit by bit. How should I partition my pay to maximise whatever I have/ clear my debt?

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First, do your budget for at least the next 5 years. Make sure you do not overspend and can generate a surplus each year.

Second, use the surplus and decide the proportion to pay down debt, invest and build an emergency fund.

I recommend building an emergency fund of 3X to 6X your monthly salary. Once you achieve that, consider your investment risk profile. If your potential return based on your risk profile is significantly greater than the loan rate, you can invest, especially if you are young. If not, pay down the debt.

All the best!

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Fergus Tan
Fergus Tan

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Level 3. Wonderkid
Updated on 16 Jul 2019

I answered a similar question at https://rplg.co/seedlyloan

CPF loans is one of the cheapest loans you can find. For me, because I started my financial education early, I chose to pay the minimum, and to have the discipline to channel the excess into an investment account.

The key you need to take note is that if you can budget $1k a month to pay off the loan, you can pay $200 to the loan and channel $800 into an investment fund. As you can see from the spreadsheet I shared, the potential investment returns even at 8% can result in a much bigger pot at the end of the day.

For a $50k education loan, let's say your loan interest is 2.5%, and your investment returns can be 8%. If you pay $200 a month, or $2.4k a year, that means it takes you almost 30 years to pay up the loan. During that period of time, your principal payment is $50k, and your total interest paid is $21k worth for your total education cost to be $71,121.

Let's say your actual monthly budget was $1k/mo as above. And now you channeled that $800 monthly into an investment fund that can pay you 8%. So that means you put $9,600 annually, for the next 30 years, into investments that gives a compounded interest of 8%. At the end of the 30 years, you would have $1.174mil in your fund.

Why does this work?

One reason is because the exponential effect of compounded interest over a long period of time.

Two is because you are young enough to allow it to compound for 30 years.

The 2 caveats is that you must have the discipline of long term investment, and that you must be able to restrain yourself to try to grow your money at a faster rate. It's very common for young people to use the excess funds either for leisure, or for chasing high returns investment, and losing a large chunk when you are young.

My suggestion is to treat this $800 as a young enforced savings habit. When you earn more income, then use that money to take higher risk investments.

PS: Of course, there are many other scenarios, like paying the education loan in 4.5years (which is around $1k a month), and then start your investment after that for the next 25.5 years. Talk to a financial professional to decide which one suits your habits. There's no perfect answer, because while financial advice is made of logic, financial action is due to human emotions.

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Hariz Arthur Maloy
Hariz Arthur Maloy

16 Jul 2019

"Financial advice is made of logic, financial action is due to human emotions." Yassss
Thelobang Thelobang
Thelobang Thelobang

()

Level 2. Rookie
Updated 3w ago

Don't forget to protect yourself and your family, but do so with minimal cashflow stress - for example, it is possible to get $1 million of coverage for only $312 a year (= $26 a month). See https://thelobang.com/index.php/2019/08/27/insurance-basics/

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Jacqueline Yan
Jacqueline Yan

3w ago

Hi there, I'm Jacqueline from the Seedly team. :) Thank you again for sharing the above article on insurance basics. It'll be great if you could elaborate on minimising cashflow stress in your answers too as it'd help the other users gather information faster. Have a good day!
Thelobang Thelobang
Thelobang Thelobang

3w ago

Thanks Jacqueline. "minimise cashflow stress" = spend as little as possible of your monthly take home salary on insurance and yet get a high level of basic protection, before considering to spend on more complex types of insurance coverage.

Contrarian here, because it is the CPF Education Loan, its only 2.5% interest. Its low plus CPF not going to chase you hard as long as you pay the minimum 100 per month. Its like a soft loan from your parents.

Pay the minimum first. You don't have a lot of disposable income. I'd rather you save more money for yourself right now, and learn to invest once you have enough emergency expense.

Take this time to learn and understand about asset classes and asset allocation, diversification, and dollar cost averaging.

Once you have your emergency expense set aside, still invest first before clearing your CPF edu loan in bigger amounts. Because beating 2.5% per annum isn't that difficult.

Being debt free is a little overrated because some debt is cheap and doesn't kill you.

If your loan costs you more than about 4%, then I'd consider paying it down quicker.

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Samuel Chin
Samuel Chin

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Level 3. Wonderkid
Updated on 15 Jul 2019

Your focus now could be in this order:

Clear your debt save up 3-6 months Emergency Fund Learn about investments along the way

Some useful pointers you can consider:

  1. Work out your monthly expenses and look at your surplus. See if there's any way to reduce them.
  2. Given that your liabilities might below, you can save 20% of your take home pay to build up your Emergency Fund.
  3. If you're comfortable, other 20% can be set for clearing off your debt (I suggest a minimum amount you set aside to build discipline).
  4. Remaining 10% +/- build up capital for investment that will beat the 2.5% CPF interest.

Don't rush into things. Be patient. Go forth and invest AFTER you save up some.

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Save 20% of your income and set aside 10% for your investment and 10% for clearing off your debt. In this case, you can invest to earn a higher return and at the same time reducing your liablity.

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Eric Chia
Eric Chia

16 Jul 2019

I totally agree, just to add on it may not be 20% split 10/10, can be higher or lower depending on your financial circumstances and risk appetite!
Yinghua Liu
Yinghua Liu

()

Level 4. Prodigy
Answered on 15 Jul 2019

Pay off your loan first if possible as the loan from cpf starts to accumulate 2.5% interest the moment you loan from cpf.

You can start to learn about investing while paying off the loan. Read articles from Seedly and other websites. Build up your emergency funds and start investing when you are debt free.

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