Unit Trust Fees: Hidden and Non-Hidden Costs
Sales Charge/Service Fee/Initial Charge
Whatever the term, they all refer to the fees you pay when you invest in a mutual fund. Most of the money goes into the marketing and distribution of the fund. Sales charges are generally reflected in the difference between the buy (ask) and ask (bid) prices and are expressed as a percentage of the fund’s net asset value (NAV).
Some funds on the market set sales charges as a percentage of the sales price; in this case, you are paying more comparatively since the asking price is higher than the NAV on an initial load fund.
Currently, the average initial charge for stock funds is 5%. In the case of bond, fixed income and money market funds, they usually come with little or no initial charge or an exit fee.
Final Charges/Departure Charges/Repurchase Charge
Back-end charges or exit fees are charged when you redeem your units in the pool. In this case, the purchase price is less than the NAV.
Some back-end charges, typically those for bonus funds, are charged if you redeem your units before a specified period; the fee is gradually reduced as you maintain the fund.
The advantage of a back-end load is that all your money goes to work immediately. However, if the exit fee is charged against the NAV when you sell (as opposed to the original invested amount) and if you invested for capital gains rather than income sharing, some of your gains will also be consumed.
Management fees
The fund company makes money from management fees. Quoted as a percentage of the fund’s assets, the annual management fee increases daily and is paid out of the fund.
Management fees for equity-oriented funds tend to be higher than for fixed-income funds. Dealers can get a small percentage of the annual handling fee, called the towing fee. American personal finance magazine Kiplinger says that administration fees for American mutual funds are typically 1% or more.
However, management fees for passively managed funds, such as index-linked funds, should be lower.
Trustee Fees
The trustees act as custodians of the fund and their job is to safeguard the interests of investors. To do this, they are paid a trustee fee, which increases daily. For an equity fund, the trustee fee is typically 0.08% to 0.2% per year.
exchange fees
Given the volatility of the markets, rebalancing is the latest investment mantra. Rebalancing involves adjusting the asset allocation in a portfolio. If you rebalance with funds within the same mutual fund management company, you may incur exchange fees.
Switching between funds involves the transfer of investment from one fund to another. When ‘free’ changes are offered, no fee will be charged to change from one fund to another.
However, in some cases sales charges or initial fees will still apply. For example, you will be charged this fee when you buy a bond fund with no charge and then switch to a stock fund with a 5% sales charge. If there is an upfront fee for both the fixed income and equity funds, check to see if you will be charged the difference in fees upfront or if you are buying at the fund’s sales price and paying the full sales charge again .
Typically, if you switch between stock funds, you won’t incur the initial fee again, as most stock funds are similarly priced. If you switch from a stock fund to a no-load bond fund, there are also no applicable sales charges and you buy at the NAV.
Once you exhaust the number of free changes offered in a year, there is often a change fee, usually charged as 1% of the proceeds of the buyback or in the form of a flat fee.
Management Expense Ratio (MER)
The MER is an indication of the fund’s management costs. All fees incurred and deducted from the fund, including annual management fees, trustee fees, audit fees, commissions paid to brokers, and printing costs; they are all expressed as a percentage of the fund’s net assets. MERs are important because these expenses can continue long after the initial fee has been paid.
However, MERs can vary from company to company and fund category. Larger funds may have lower MERs as economies of scale are achieved. Index funds should also have lower MERs than their actively managed peers, since less research is required for them; For example, in the US, the Vanguard S&P Index Fund, which manages a sizeable $78 billion, has a total expense ratio of just 0.18%.