Wednesday, August 6, 2014

What’s In My Wallet? Understanding Mutual Fund Costs

Technology now provides investors far more information than was available just 5 years ago. This additional information raises a question: What’s information is important- and what’s not? For mutual fund investors, it’s critical to understand mutual fund costs. The best source for this information is your mutual fund’s Summary Prospectus. You’ll can download this document from your fund’s website.

I’ll divide the cost of buying and holding a mutual fund into several parts:

Sales Load: The sales load is a commission paid for a mutual fund. That load may be paid when you purchase the fund or when you sell the fund. The load may also be paid each year, for a stated number of years. Fortunately for investors, competition has forced down the sale loads charged by mutual funds.

Expense Ratio (Management Expense Ratio): This is a fee to cover the annual cost of operating the mutual fund. The fee covers expenses for recordkeeping, tax and legal costs, and for a custodian. The custodian takes physical custody of the assets in the fund. Custodians send statements to investors, which document what they own and the investment’s value. The expense ratio is calculated as percentage of the assets the fund has under management.

12B-1 Fee: This is an ongoing fee to compensate the marketing and salespeople who sell the fund. The majority of this fee goes to the salesperson who sold the fund to the investor. Financial advisors refer to these payments are trailers. Since the salesperson must oversee the investment and answer customer questions, they are paid a trailer or trail commission each year.

Reducing Your Costs: One way to reduce your mutual fund costs- and still maintain diversity in your portfolio- is to take advantage of breakpoints. A breakpoint is a quantity discount, based on the total dollar amount of investments in a particular mutual fund family. American Funds, for example, is a mutual fund family. They have dozens of mutual funds, each with a different investment strategy. An investor could purchase a variety of funds within American Funds and create a diverse portfolio (Blue chip stocks, speculative stocks, bonds, etc.) The mutual fund looks at the total dollars invested in the fund family. Based on the dollar amount, the sale load may be lowered for each purchase over a given dollar amount. For example, American Funds might lower the sales load for every dollar invested over $250,000.

Take the time to review the Summary Prospectus for your mutual fund. You need to understand the cost of your fund, and how the cost is incurred each year. If you educate yourself, you’ll know exactly what’s coming out of your wallet when you invest.

You’ll find a variety of finance and accounting videos linked to my website, as well as my videos and my webinars for Financial Time’s ExecSense website:

Good luck!

Ken Boyd
St. Louis Test Preparation
Author: Cost Accounting for Dummies, Accounting All-In-One for Dummies, The CPA Exam for Dummies (Sept. of 2014) and 1,001 Accounting Questions for Dummies (2015)
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Author:, Personal Finance Fundamentals (Summer of 2014)
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