If you want to ensure that the profits earned by your mutual funds aren’t being siphoned off by fast talking mutual fund companies, you should read this article. In it, you’ll learn about the various types of mutual fund fees and expenses, and which funds will provide the best investment deal. In the mutual fund world, the common lingo for identifying whether or not a fund charges special fees and expenses is “no load” and “load”. As you might have guessed, the word “load” is synonymous with added costs.
There are also a few other expense-related terms you should learn, and those will be addressed here as well. After reading this article, you will know which mutual funds to target for your portfolio and which to examine closer or avoid all together.
First, I’ll list the most common fees and expenses associated with mutual funds and then we will go from there.
Mutual Fund Fees and Expenses:
– Fund management fee
– Sales commissions
– 12b-1 fee
– Front-end fee
– Back-end fee
I might have forgotten something minor, but you get the gist. Now let’s tie these fees and expenses to the three broad mutual fund “load” classifications. The fee classifications are load, no-load, and 12b-1.
What is a no load mutual fund?
Before diving too deeply into this question, you should know that all mutual funds charge a management fee for you to participate in their fund. The fees usually range from 1% – 2% of the fund’s value. If it’s higher than 2%, dig a little deeper to see if they’re playing games.
The average management fee among all mutual funds is around 1% to 1.5%. And there are plenty of them that charge less than 1%.
In any event, the purpose of the management fee is to cover basic fund operating and administrative costs such as staff salaries, auditing, printing of monthly/quarterly statements, marketing, legal, and record keeping.
You should care about fees because they come out of your pocket. Basically, if a fund charges a management fee of 1% and your account balance is $10,000, that means your annual share of the total operating cost is $100, or about $10 for every $1000 invested.
While the management fee percentage might seem tiny, it’s no small matter. Think about a mutual fund with $500 million in assets. If you take 1% of that, it comes to $5 million. That’s still a lot of money to cover a few salaries and administrative costs. Plus, this fee, in effect, lowers the return on your investment.
With that out of the way, a “no load” mutual fund is one that doesn’t charge you a sales commission or any other costs beyond the management fee.
There are thousands of no load mutual funds that will address any investor’s risk tolerance level, preferred industry, or other investment requirement. In addition, research has shown that the performance of load mutual funds, which we will discuss shortly, is no better than no-load funds.
So save yourself a pot of money by putting no-load funds at the top of your list when it comes to expanding your mutual fund portfolio.
What is a load fund?
If you decide to invest in a load mutual fund, expect to pay a “load” in the form of a sales commission. The load amount could easily range from 3% to 10% on top of the already mentioned management fee. The commission is paid to the financial adviser who convinced you to buy into the mutual fund.
Additionally, depending on the fund, the commission could be charged on the front end or back end. Allow me to explain.
Let’s say that you want to put $10,000 into a load mutual fund that charges a 3% commission or load on the front end. What this means is that $300 will immediate go into the pocket of the commission earner, and the remaining $9,700 will be invested in the mutual fund.
Conversely, if you were to put the money in a fund that charges on the back-end, it means that the mutual fund company will still pay the commission upfront but it won’t come out of your pocket right away. Instead, they’ll recoup their “back-end” fee from you when you take the money out of the fund later on.
Some mutual fund companies have a sliding scale and will gradually reduce the back end fee for each year you stay in the fund. And after a certain number of years, the back-end fee will go away completely and the fund will then be just like any other no-load fund.
Next, sometimes you’ll hear the term “low load mutual funds” when the commission percentage is in the 3% range or lower. But when the commission fee goes higher, these funds will be labeled as “high load mutual funds”.
Again, there’s nothing magical about load mutual funds. You’re not guaranteed a higher return on your investment. So do your homework before you dive into one of these funds because, in general, there’s usually no reason to.
What are 12b-1 fees and funds?
This is an extra annual fee that some mutual funds charge to supposedly cover advertising, sales, and information distribution costs. But oftentimes, it ends up as a commission that goes into the pockets of a financial adviser. Some funds that charge this fee are referred to as “level load funds”.
The 12b-1 fee is usually 1% or less of the fund’s value. But it is not viewed favorably because, while a standard load fund might require a one-time upfront sales commission, the 12b-1 fee is an annual occurrence. This can really add up over a number of years.
Again, you’re better off just sticking with no-load mutual funds.
To ensure that you review all the fees that mutual fund charge, ask for a copy of the “prospectus”. This is a report that tells you everything you need to know about the fund — fees and all.
Finally, it’s reasonable to expect to pay some costs to invest in a mutual fund. After all, it takes a lot of expertise to manage a fund. However, the mutual fund industry has no qualms or shame about being too greedy. If they think you’ll pay extra, they’ll find ways to nickel and dime you. So do yourself a favor and read the fund prospectus closely to learn about all of the mutual fund fees and expenses you’ll be charged.
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