When you look at a mutual fund prospectus, it will show you a chart. Had you invested $10,000 in 1972, it would have grown to $X by now. All the mutual funds have nice charts. Lots of dot matrixes. They show that during the oil embargo, in 1964, the value would have been $Y; when Reagan was president, it would have been $Z. But they never show you that each year you would have gotten a 1099, so the real growth would have been only one-half of what shows on the chart. Figure it out.
Let’s go back to the $500 generated by a $10,000 CD, which was discussed earlier in the chapter. If you did not have to pay the tax, you would have had the $500 back in your pocket as well as all of the options that you no longer have because the $500 that was generated to multiple federal taxes as well as state and, often, city taxes as well. The loss is not just the tax you had to pay; it represents a lost opportunity as well: the opportunity to use the $500 more effectively.
People rarely factor in the potential for loss. Dreamers never do. Many wealthy investors allocated their assets so poorly in the late 1990s that when the NASDAQ dropped, they lost everything. Why should artists be expected to act any more wisely?
This brings us back to sound advice and counsel from your—the artist’s—business managers. They will tell you that markets do not rise in a straight line—nor do they usually fall in a straight line. A 10% average over five years may have been achieved by one year of 15% growth, one at minus 3%, one at 0%, two at 6%, and one at 26%. Markets don’t move in consistent ways. They do not perform at 10%, 10%, 10%, 10%, and 10%. They never will.
People will tell you that, except for income-producing real estate, there is no return like the stock market over time. This was essentially true prior to 2000. But, as we have seen, average return and actual return are not the same. Furthermore, losses count more than gains and if you lose money and have a bad experience, you may be scared off the market forever and that is a loss that you cannot calculate. For example, if you lost money simply because the economy went south for a while, or you had a personal need for emergency money and you could not get it out of the market without taking a horrible loss, you might tire very quickly of the market as a resource for your financial well-being.
You may be thinking, “Well, I am very computer savvy and I am becoming fairly expert at dealing with E*TRADE. Why can’t I do it myself?” Outside of the fact that you should be doing what you do best—writing, performing, managing, producing, whatever—why do you think that you can possibly do as well as a professional? Handicapping stocks is a complex process. Sure, when the market is going up at the rate of 30% a year, which it did in the late 1990s, you don’t have to be a genius to grow your portfolio. But I suggest that spending money to get good advice on your investments is well worth it. Even if your broker commissions purchases and sales, it is money well spent. You should still shop around for the lowest commission rates. Online services have made strides in this area and should be seriously considered as an option. And if the uncertainty among average investors is not enough to make you wary, consider legendary financial historian and investment advisor Peter Bernstein’s famous warning: “We don’t know what’s going to happen with anything, ever.”
MAKING IT AND SAVING IT
Beware of Greeks bearing gifts. Remember the Trojan horse? How about those millionaire lottery winners? Once you start making money that you do not need for your living expenses, there are going to be a million people wanting to latch onto you.
Just as in all businesses, there are good guys and bad guys. Hundreds of thousands of people have passed the securities exam. Even Martha Stewart. But what is their motivation? Are they interested in you as a person, a husband, a father, a breadwinner—a rock star? Or are they dancing to your music as they charge you big-time fees? You have to use all of your talents of perception to consider the motivation of your representatives. There are those who will tell you that stockbrokers merely sell the flavor of the day—that if they were really that good, they would be traders—or analysts. This is obviously an oversimplification. But whenever you put your money into the hands of someone who can control its activity, you are taking a risk. Not necessarily an unreasonable one, but a risk nonetheless. And you had better be sure about the person you hope will steer you around or through that risk.
Consider the fees and expenses of maintaining your portfolio. Brokers’ primary motivation is not necessarily to make money for people; it is to generate activity in accounts. I am not saying that they “churn” the accounts, but they themselves do not make any money unless they are buying and selling, that is, unless your assets move in your account. They get a percentage of every purchase and every sale. At their worst, they meet in the morning and say this is what we’re going to sell today. They often do not do adequate research, and you are as anonymous as the rest of their clients. One thing is certain: in essence, they are salespeople. Often they are under pressure from their superiors to sell products that offer higher commission payouts. A friend of mine who works in the investment field says that brokers are in the moving business, not the storage business.
Remember, growth funds such as mutual stock or mutual bond funds are not federally insured by the Federal Deposit Insurance Corporation, the Federal Reserve Board, or any other government agency. And it would serve you well to also acknowledge that stocks and bonds gain, and lose, value for both direct and indirect, good and bad reasons. A company may announce horrible numbers, such as earnings, or there might be a flare-up in the Middle East affecting oil prices and, accordingly, the entire economy of the United States. Most troubling is when stock analysts devalue a company’s shares (for example, Apple in 2012 when the so-called “new” iPad was offered for sale) because of extraneous stress tests applied. In Apple’s case, 1,250 people had lined up at its Fifth Avenue flagship store in 2011 to buy the iPad 2. Only 750 people showed up in 2012 following the launch of the follow-up. The analysts disregarded the fact that presales were abundant with the new iPad, though not even available for the iPad 2, and that since 2011, two other huge Apple stores had opened within blocks of the flagship store—one right in the middle of Grand Central Station, the arrival and departure point of many of the former customers of the Fifth Avenue store.
Owning foreign securities is even more risky.
Am I suggesting that you revert to the mattress method of savings? No, of course not. But I would be remiss if I did not point out the dangers that should, at the minimum, be investigated and addressed before you risk your hard-earned capital.
Real Estate
I do not mean to ignore what for many has been the wisest investment of all: real estate. But therein lie many surprises. Experts in the valuation of properties often miss, but they are often corporations using bank money. Individuals who take these risks should follow two simple conservative rules: first, buy something that has value to YOU—that is, as a home or even a vacation or weekend home, and second, buy something that has inherent value: something along a beach front; an 18th-century house that will always be unique to some future purchaser; a property in a neighborhood where property is so rare that it is bound to make a comeback (sooner or later, even if much later); a house that with a little paint, a SubZero refrigerator, and some minor repairs can be returned to its former level of quality (for example, a stone barn) on five to ten acres of land. As low as interest rates have been since the recession of 2007, the interest rates on mortgages in 2012 have hovered around 3% to 5% depending on (1) the size of the loan, (2) the term of the loan, and (3) whether the rate is fixed for ten, twenty, or thirty years, or whether it is susceptible of arbitrary or agreed increase after a set amount of time.
Savings Accounts
And then there are savings accounts. Guaranteed up to $100,000 each by the federal government, the interest rates after 2007 have been minuscule—not even keeping up with the low rate of inflation, thus resulting in a net loss of purchasing power as the years go on if nothing were to change. In 2012, the best money market (super savings accounts) rates we
re LESS than 1%. Normal savings account rates were even less than that.
Deferred Payments Versus Cash on the Barrelhead
Successful young artists who suddenly come into more money than they have ever had in their lives are at risk of blowing most or all of it on cars, companions, or even a home recording studio that may be a luxury in view of their particular circumstances. So a business manager asks, “How can my client not take so much now and get used to having less money so later on there will be some left—especially if things do not work out as hoped careerwise?”
One answer is to defer payments. Like anything else, there are pros and cons to deferring payments. No taxes are payable on deferred payments. Then again, you have lost the opportunity to build the deferred money into a larger sum because you do not control it. So an alternative route would be to take the money when offered, provided that you are disciplined enough not to spend all of it. A good business manager will encourage you to have some kind of savings plan from day one. Combine this with the overwhelming odds that you are likely to fail despite how talented you may be, and you can begin to see why it would be smart to follow Grandmother’s advice to put away some money for a rainy day.
One of the psychologically enticing aspects of having lots of money in your pocket when you are young is that it makes you feel as if you are on top of the world. You are likely to spend it all on things that are not enduring—that is, not on real estate or sound investments. Or you may think that your advisors are warning you to save because they do not believe in you. This is simply not true. They are telling you this because they care about you and know the reality of the situation. They are looking at things with a less romanticized vision than you are—which is not only sensible, but it is also what you want in a financial advisor. A business manager who says, “Let’s put away some money” is saying it because he or she has seen people less (and more) talented than you and less (and more) lucky than you not succeed. Your manager wants to make sure that you are covered no matter what happens.
Insurance
In all likelihood, insurance protection is something that your business manager will be responsible for. As noted earlier, the business manager’s aura of protection goes beyond your work—into your life.
In the past, business managers worked closely with one or more insurance agents to identify and secure the best insurance for their clients at the lowest cost: homeowners’ (covering risk of theft, loss due to fire, etc.); automobile; an umbrella policy giving you an added layer of protection; and life insurance. They were not meant to profit from the choice or amount of insurance obtained, but sometimes they did, and no one—certainly not the client—was the wiser. Recently, the American Institute of CPAs changed the rules that had prohibited CPAs who are AICPA-certified from being agents for insurance companies. Now it is permitted, and the client is suddenly faced with a potential conflict of interest. If the business manager benefits from the policies he or she secures for the client, how does the client know that the advice being given is valid?
The good news is that whereas in the past clients would never know for certain that they had all of the requisite insurance to protect their assets and their heirs, now, most certainly, they will. And for the first time, insurance fees are split with your financial advisors, and this practice, and its cost, are right up there in plain sight—on the balance sheets proffered by your business manager. He or she is being paid. So what. Everyone else who provides a service is getting paid.
Life Insurance Although there are many books and Internet articles that cover the subject of life insurance, I am giving it special attention here, in the chapter on managing your business, because the entertainment industry in general and the music industry in particular is a high-risk arena: there is a high risk of failure, of early burnout, and, sadly, of early death or disability. Musicians are always under pressure to write more music, record more hits; they have to tour and tour and tour. Drug abuse has been an occupational hazard for over a century. As a result, some artists become uninsurable at a relatively young age.
The lesson here is that any artist, songwriter, record producer, or manager who secures life insurance early has successfully “buried” a sum of money, that is, put the money away into a protected place, where it will be available no matter what happens down the road. That person will not have to pay taxes on the cash value of the policy as it grows. And in many states, the value of a life insurance policy is protected from creditors in bankruptcy proceedings. Life insurance, then, can be regarded as one kind of investment vehicle, and should be carefully considered by the artist and the artist’s representatives so that an informed decision can be made.
There are essentially two kinds of life insurance: term and whole life. Term insurance is what it sounds like: insurance against an early demise that expires at some specific point in the future. If you die within that time, fine. If you die after that time, you’re not only dead, but your estate or beneficiary does not receive the insurance. The appealing thing about term insurance is that it appears to be cheap. But once the term ends, it is over and there is no residual value remaining. Whole life insurance, on the other hand, appears to be expensive, but it actually works as an investment vehicle in that its cash value grows over a period of years. You can cash in your whole life insurance policy at any time, or borrow against it. Once fully paid, the policy remains in effect until you die, at which point the insurance company will pay your beneficiary the face value of the policy. What does all this have to do with you?
Consider the following scenario. A young artist wants some of the advance monies from his or her record contract to be used to purchase life insurance. The recording relationship lasts for three or four years, then the artist is dropped from the label. If the artist has purchased whole life insurance, the payments will be very expensive; if for term, they will not be. Thus we see some justification in favor of term insurance, at least at the beginning of an artist’s career. Artists who subsequently make it big can convert the term policies into whole life and build equity; if they fail, the policy will end or they can keep it going for far less money than a whole life policy would have cost.
Alternatively, let us imagine that the record company can buy a whole-life cash-value life insurance policy. The company fronts enough money in the first year or two of the recording agreement for the policy to be fully funded, and does not require any further premiums for it to remain in force; the cash value can be borrowed against. The artist can now continue making payments, or, if the relationship with the record company continues, the record company can. Theoretically, this policy can be paid off quickly and it will last for the artist’s lifetime. Now that’s planning.
Note that up-front payments of a life insurance policy’s premiums may have unfavorable tax consequences. However, there are ways to avoid an acute tax problem for you. Your business manager will know how.
Let’s say a recording artist has succeeded over the years and makes a bundle of money year after year after year on his or her catalogue of records and/or songs. The artist’s business manager wants to invest prudently. But maybe having an IRA is not prudent. Is an IRA creating wealth for the artist or is it just sitting there, not doing anything except grow at a snail’s pace? Maybe this particular artist does not need an IRA at all. Recall that at age seventy and a half, the artist must start withdrawing the money, or be taxed on it anyway.
Suppose, instead of putting money in an IRA, the artist purchases a $5 million life insurance policy. By the time he or she reaches seventy years, this policy can be worth $10 million dollars! At that point, the artist can live high on the hog because the policy, at his or her death, will be worth so much. Without such a policy, the artist must be careful not to spend too much, so that enough will be left for his or her heirs. Putting it simply, the policy makes the artist richer.
There is another advantage to choosing this option. If the artist’s advisors gamble wrong and royalties stop, the policy still
has value and the artist can borrow against it or cash it in. (There are ways to withdraw money out of a life insurance policy without paying tax on the withdrawals.)
7 • WHEN YOUR JOB IS MORE THAN A GIG
Employment Agreements and Disagreements
Blessed is he who expects nothing, for he shall never be disappointed.
—JONATHAN SWIFT
For most of us, inherited wealth is not the way we will end up providing for ourselves, our families, and our progeny. This will come only through our own hard work and income. Therefore, if one is fortunate enough to be offered an important, well-paying position at a company in one’s field of choice, there is no legal document in one’s work life more important than the employment agreement. Being offered an employment contract and signing one (or more) are seminal events in an executive’s life. Many provisions in employment agreements are standard, no matter what industry the company is in, and to provide a context for employment contract provisions that are of special concern to the music industry professional, I will first review many of the customary provisions in standard employment agreements. As some of these can mean financial success or failure for the employee signing the contract, it is crucial for the employee—and his or her advisors—to pay careful attention to all of them, including so-called “boilerplate” provisions.
TERM OF EMPLOYMENT
Assuming an employee is confident of his or her abilities, it is obvious that if that employee can keep the term shorter, rather than longer, his or her options will be increased many times over. In employment agreements, the word options is usually used to describe the right of the employer to determine whether to extend the term of the agreement. Surprisingly, even some of those whom one might consider the more savvy first-time contracting executives do not initially understand this. The right of the employer to control the length of the term of the agreement is a very powerful tool used by employers to wield power over their employees.
What They'll Never Tell You About the Music Business Page 22
