[Transcript] Episode 008 – Scott Stratton
Transcript: Episode 008 – Scott Stratton
When I graduated from college and was first starting my music school, I knew saving for retirement was a thing I should be doing, but I really didn’t know how to get started.
Today’s guest, Scott Stratton, is a financial advisor and he’s going to tells us about some of the retirement options available to self-employed musicians.
The specifics of this episode apply mostly to American teachers, but the general savings principles apply to everyone.
Here’s our conversation
Andrea: Thank you so much for being here Scott. Can you introduce yourself to the listeners and share what you do?
Scott: Hi! I’m Scott Stratton. I’m a financial advisor and I have my own firm, my own wealth management company called Good Life Wealth Management. Before that, I was a musician. I went to the Oberlin Conservatory and _ School of Music. My wife is a member of the Dallas Symphony and we have a lot of friends who are professional musicians and so along the way I’ve been always asked a lot of financial questions from my friends who are musicians and I still get to play and thankfully get to interact with many people that way.
Along the way I eventually decided to start a site called Financeformusicians.com because I was giving so many of these same types of questions from musicians. And I realized there weren’t a lot of good sources for professional musicians to get good answers about financial planning questions.[00:01:51]
Andrea: Alright, that’s an awesome background. So you are here today to answer some questions for us about retirement planning for self-employed musicians and that’s kind of a hard topic for us because we can’t just walk into our HR offices and get all of our questions answered. Why should we be concerned about retirement?
Scott: Now the best time to get started is always earliest. And so I know it’s not something that’s top of mind for folks when they’re in their 20s or 30s starting out but everyone who’s 50 always has the same regret which is they wish they’d started sooner. And when you don’t have a 401(k), you don’t have a company providing a match, it’s really up to the individual to take care of their own retirement planning and saving.
Today people are living for a very long time. We have increased life expectancies so a lot of people who might be 20s or 30s today, they might plan on working until they’re 65 but they might live for another 30 years after that. And that’s a very long time to be dependent just on social security. So in order to have a comfortable retirement, to have the kind of lifestyle you want to have, it’s probably going to be really important for most folks to be doing their own retirement saving and investing. And the best time to start that is at an early age.[00:03:03]
Andrea: How much could someone expect to need to retire and live off of it for 30 years?
Scott: Right. So financial planners have something called the 4% rule and so we generally recommend that people withdraw no more than 4% of their money in retirement on an inflation adjusted basis. So if you had $1 million, we’d recommend you take out $40,000 in the first year and then the next year you could increase that by the rate of inflation, and that should be enough to last for a 30-year retirement pretty much any type of investing environment. So if we take that 4% rule and work our way backwards, we can then see how much of a nest egg you need to have. So if you need $60,000 a year or $5,000 a month, that would mean you need $1.5 million.
Now, the challenge is if we’re thinking in terms of today’s dollars we’re not taking into account inflation. So if we put even just 2% or 3% inflation on that and go out 30 or 40 years, you’re going to need double what you need today. So at 2% inflation that’s going to double in less than 40 years. At 3% inflation it would double in about 24 years. So if it costs you $40,000 a year just to meet your basic living expenses, you’d probably need to plan for $80,000 if you’re looking out a couple of decades.[00:04:21]
Andrea: So that’s the nest egg of $2.5 million or something when were…
Scott: Yeah, if you’re looking at $80,000 we want to have a target of $2 million, which sounds like a huge amount of money today but it won’t be as much 40 years as what it is today.
Andrea: Yeah, that’s true. So a big chunk of our self-employment taxes every year goes to social security. First of all, just briefly, what is social security and can we expect to get anything out of that in four years?
Scott: Right. So social security is an entitlement program. A lot of people think it’s a pension where you’re paying in and they’re holding your money for you. However, the way social security actually works is current money, taxes paid are paid to current recipients. Now in the past there used to be a surplus and that surplus was then invested in the Social Security Trust Fund. However, in the last couple of years, that’s been a negative amount. So they’ve been paying out more in benefits than they are taking in as the baby boomers are starting to retire and become eligible for their social security benefits. And as a result, the Social Security Trust Fund is expected to be depleted by about 2034. At that point, we will not have enough money to be paying out the benefits that have been promised.
So there’s going to have to be some kind of social security reform. They should have addressed it a long time ago but it’s such a hot potato issue that nobody wants to tackle it. I think we should plan on social security being there because it’s such an important piece. But, clearly, the benefits are going to have to be reduced in order to be affordable or the taxes are going to have to go way up, which isn’t such a great option either. Now the reason why its become such a burden is that it used to be there were 15 workers for every retiree. Today, there’s about three workers for every retiree and in a couple of decades for now there’s only going to be two workers for every retiree taking social security benefits. So the Math just doesn’t really work out on that.[00:06:17]
Andrea: Yeah. So you think we’ll get something but it shouldn’t be a big part of our retirement plan?
Scott: I don’t think they can really allow it to fail. On the other hand, it might have to have some changes to it in terms of when you can start benefits or when the full retirement is or how they calculate the cost of living adjustments. So it’s possible that the benefits will be less than they are promised today.
Andrea: Okay. It’s good to keep in mind.
Scott: Yeah. I know some people who are really pessimistic about it and just think that there won’t be any social security benefit, and if you take that out of the equation, most people are going to need to really save a lot of money if you assume that there’s going to be no social security.[00:06:58]
Andrea: On that note, when should we start saving for retirement?
Scott: Yesterday. The best time is always as soon as you start, yeah. So one of the things I like to show folks is I got this little chart and it’s just a very simple spreadsheet and it’s called “The Cost of Waiting” chart and so I take a look at someone who is investing $5,000 a year into an IRA and they start at age 25 and they just invest through age 35 and they earn 8% annual return, they stop after age 35, and at age 60 that person would have $615,000 in the account.
Take another person though, invest the same amount $5,000 a year, it’s the same rate of return at 8% but they start at age 35 and they invest all the way through age 60, more than two and a half times longer, they’ll only have $431,000.
Andrea: So, many more years of saving and much less.
Scott: Yeah, because we’re losing the power of compounding. You’re losing all that time that the money could be growing. So the earlier you start, the easier it is to knock out some of those goals and to end up with a substantial nest egg. It’s very difficult to catch up. You have to save a tremendous amount more if you’re getting a late start.
Andrea: And we can share that.
Scott: Yeah. I’ll send you a copy of that. I’d love to see more people getting an early start. If they can start in their 20s rather than their 30s or 40s, they’re going to be much more likely to be successful.[00:08:30]
Andrea: Yeah, okay. We’ll share that chart in the show notes. So what options are there for self-employed individuals to invest in their retirement?
Scott: There are three types of individual accounts that musicians should know about. There’s your traditional IRA, Roth IRA and the SEP IRA. For the traditional and Roth, your contribution limit is $5,500 and I recommend everyone try to do that on a monthly basis so aiming for about $458 a month would be the maximum that you could contribute. The traditional IRA is in some ways the most complicated because everyone can invest in a traditional IRA but only some people can deduct their contributions. And if you can’t deduct the contribution, don’t do the traditional IRA. Do one of the other two choices.
So who can deduct their contributions to a traditional IRA? That’s going to depend on your income. If you’re single and you don’t have a retirement plan available to you through any employer, you’ll always be able to deduct your traditional IRA contributions, same thing, if you’re married and neither spouse is eligible for employer-sponsored plan. However, if either you or your spouse are eligible for a retirement plan through your company, then your eligibility for Roth is dependent on your income. So if you make too much, you’re not able to deduct the contributions.
Now let’s assume that you do make enough, you’re under the limits where you can make the deductible contribution, if you make a deductible contribution to the IRA the money is going in pre-tax, then it grows tax deferred, and then when you do retire and take the money out, at that point it’s taxable to you.[00:10:13]
Andrea: And the idea is that you’ll be in a lower tax bracket when you’re retired than when you put it in?
Scott: Yes. That’s the idea with the traditional IRA. With Roth IRA it works differently. You put the money in after tax and then it grows tax-free and when you take it out in retirement then you can take the money out of a Roth IRA tax-free. It has a little bit higher income limits so more people are eligible to do the Roth, and today, with the tax cuts we’ve just had here in 2018, a lot of people are in a pretty low tax bracket and I think the Roth is probably is going to make more sense for a lot of folks.
So the same contribution limits on those two, $5,500, but if you’re able to save more than $5,500 then you might want to be looking at the SEP IRA. So the SEP IRA is technically an employer sponsored plan but it works great for a self-employed individual because you can save much, much more. You can actually save up to $55,000 this year into a SEP IRA, but it’s more complicated because it’s not a fixed dollar contribution. It’s based on how much you make. Most people can’t calculate their SEP contribution until they actually sit down and do their taxes, take out all their deductions, subtract their self-employment taxes, and only then can they actually calculate what is the amount that they can contribute to the SEP IRA.[00:11:35]
Andrea: Okay. And is that like, I know with an IRA you can submit payments for the 2018 tax year through April 15th of 2019, right?
Scott: Yes. So with Roth and traditional you can do that through April 15th. The SEP IRA is the only one that you can do if you file a tax extension. So if your extension before April, you can pay your SEP, fund your SEP IRA by making a contribution all the way through October 15 of 2018 for your 2017 taxes if you did an extension.
Andrea: Okay. Wow. So you’ve got some more time to figure it out but you’ve really got to be on your game with your taxes.
Scott: Yes. The challenge with a SEP is because you don’t know the exact amount, it’s tougher to do automatic monthly contributions. So it’s only if you’ve done a SEP before and have an idea of what you might be eligible before you can start to make some of those contributions automatically.[00:12:33]
Andrea: When does it make sense for someone to look into the SEP IRA? Should they already be maxing out a Roth and a traditional IRA or how should they prioritize those?
Scott: I’d say that’s probably one of two reasons. First is if you’re able to save more than $5,500 a year and are hitting that limit, or second, if you’re above the income limits as an individual or as a married couple and are not able to do either the Roth or traditional. You’ll always be able to do the SEP no matter how high your income is provided you have that self-employment income.[00:13:05]
Andrea: Okay. Thanks. What do you recommend for someone who’s just starting out? What should their first steps be?
Scott: I’d say even before you’re investing your first one, have a good emergency fund in place of at least three to six months of living expenses set aside, have some good cash flow where you know that you’re going to be meeting your obligations even during the summer when things are slowing down. We’re coming into that time of year right now where I know a lot of teachers see their kids going on vacations while the gigs are drying up for the summer and that can be a lean time for a lot of freelancers here in my area in Dallas. So having a good emergency fund in place, having a plan to pay off your student loans and other debt, and once you have that in place it’s never too early to get started even if you’re only starting out at just $100 or $200 a month into an IRA.[00:13:54]
Andrea: Okay. And how much do you need to initially open an account like an IRA?
Scott: It will depend on where you’re having that account being held. So some mutual funds will allow you to set up an automatic contribution plan with as little as $100 or less.
Andrea: What about apps like Acorns or Stash for investing really small amounts when we’re starting out? Are those useful or not? Can you say anything?
Scott: There are lots of different ways you can invest today so I think it’s great that there are some technology that’s going to allow people to make smaller contributions at the beginning. At the same time, I think some of the giants, the traditionals have lowered their minimum so it’s really easy whether you’re getting started with Vanguard, Fidelity, Schwab or looking at something like Betterment or Acorns. So lots of different ways to do that, the important thing is you want to have a risk tolerance process in place. Make sure that you’re looking at things that are very low-cost and then just have a plan for putting that money away on a regular basis.[00:14:55]
Andrea: There have been a lot of options for different budget points.
Scott: Yeah. It’s exciting time right now. The technology has made this a lot easier. It used to be there were very high minimums on some of these things. You had to have $10,000 to invest in some mutual funds and today it’s a lot easier.
Andrea: Okay. Are there any rules of thumb for how much we should be saving in our 20s and 30s for retirement, like a percentage of income or anything like that?
Scott: Yeah. I think you could start out by saving at least 10% and you’re going to be well ahead of the game, especially if you’re getting an early start in your 20s. If you’re getting a later start, 10% might not be enough. And of course, the more you can save early, the better that’s going to help you in the matter of how long you’re saving because there might be some point in the future where you’re not able to save as much but 10% is a great way to get started. If you can do more, go ahead and do it. You won’t regret it.
Andrea: Looking at charts like the one you described is always motivating to me to save a lot as early as I can.
Scott: I hope so. You know if people see what it can be then it starts to become a little bit more tangible.[00:15:58]
Andrea: Yeah, definitely. Is there anything else we should be thinking about in terms of retirement savings and getting started with that?
Scott: I’d say one of the important things to start off with is just to be doing a net worth statement. Sit down and write down all of your assets and liabilities. And your assets, listing all of your accounts, your possessions, things that you own of value. And your liabilities, looking at student loans, credit card balances, your mortgage, and having a real plan for what to do with your money, both in terms of how you can increase your assets and be decreasing your liabilities. So yes, we ought to be saving for retirement. That ought to be part of a larger plan to be increasing your net worth by increasing the assets and decreasing the liabilities. And which takes priority is going to depend somewhat on the rate of return that you’re looking at. So if you have some liabilities that have a very high interest rate, that might take a greater priority than say investing in something that might have a very low yielding savings account, for example.[00:16:58]
Andrea: Okay. Thank you again for being here today. How can listeners connect with you?
Scott: Sure. You can reach me online at Financeformusicians.com or you can follow us on Facebook, again at Financeformusicians.com and feel free to shoot me an email if you have any questions or if I can help in any way. I work with musicians from all around the country who have questions about their financial planning and retirement goals and I’m able to help them and give them a good plan.
Andrea: Awesome. I really hope people reach out to you because I think you can be just a tremendous help as they plan for their financial future. So we will be in touch. Thank you so much.
Scott: Thank you![00:17:38] [End of interview]
Knowledge is power when it comes to managing our finances. I’ve always been good at managing my money, but when I started my career, I think I assumed saving for retirement would be this big complicated thing, so I avoided thinking about it for the first two years.
It doesn’t have to be as complicated as I was making it out to be. The hardest part is having the discipline to set aside that money on a monthly basis – and if musicians are good at anything, it, it’s discipline!
When I’m working with a new teacher on their budget, I always encourage them to set aside that $458/mo, like Scott said, to max out a Roth IRA. If the full amount can’t go in the budget now, we budget some smaller amount to start building the habit, and work towards a higher amount as their income increases.
You can find budget worksheets to help you think through some of this in the show notes at musicstudiostartup.com/episode008 and do reach out to Scott. He’s a great resource for musicians.
If you know a music teacher, especially a young teacher just starting out, who needs to hear this discussion, would you share this episode with them?
That’s all for today. I’ll be back next week with another teacher interview.