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Mutual Fund Fees Explained

by Ben Bontekoe

Overview

Mutual funds are a way to invest in securities without being tied to the fortunes of individual stocks or bonds. Mutual funds allow investors to spread their investments across a variety of holdings to maximize returns while reducing risk. While mutual funds allow you to own a broader piece of the market, they come with expenses that you should consider when deciding how to maximize your returns.
Identification

Mutual funds pool money from a number of investors and use it to invest in a variety of securities. Investments are made according to the strategy and objectives of the fund as described in the prospectus and may be designed to provide high growth, income or some combination of the two. While mutual funds are often touted as a lower-cost alternative to individual securities, they do carry fees.

Loads

Sales charges on mutual funds are called loads, and there are several types. Front-end loads are sales charges that are paid when the fund is purchased; they reduce the amount you invest in the fund. Back-end loads are paid when you sell shares in the fund, and they reduce the amount you receive when you redeem shares. Typically, back-end loads are reduced over time and often disappear if you hold the fund long enough. No-load funds have no front-end or back-end sales charges.
Expense Ratio

Mutual funds cost money to manage. There are expenses for rent, staff salaries, utilities and legal and accounting fees, among others. These expenses are passed along to shareholders in the form of an expense ratio. The expense ratio is all the expenses of running the fund expressed as a percentage of the fund's assets. Expenses are deducted from the fund's assets, reducing the amount paid out to investors and lowering the total return.
12b-1 Fees

Mutual funds may also charge fees for the marketing and distribution of the fund. These are known as 12b-1 fees and include such things as printing and mailing brochures and prospectuses, television and radio advertising, and compensating brokers who sell fund shares. These charges are included in the expense ratio and are deducted from the fund's assets. Funds calling themselves "no-load" are limited in the percentage of 12b-1 fees they can charge.
Considerations

You should be aware of the various fees when you're considering a mutual fund. For example, a fund with very high returns may also come with very high sales charges and expense ratios, eating into your total return. A fund with lesser returns but lower fees might provide a greater return in the long run.