The Impact of Fees on Mutual Fund Investment Returns

In every country, tax is the major source of revenue and similarly, every service company’s fee received for their service is the major source of revenue. Every business sector follows a different fee structure. In the Mutual Fund industry, Asset Management Companies (AMCs) charge various fees for their services such as Expense Ratio, Entry Loads, Exit Loads, Management Fees, Account Fees, Recurring Fees, etc.

This blog will help you understand how fees impact the return on your Mutual Fund investments. I have provided some examples and highlighted points to explain why it’s crucial to consider fees when choosing a Mutual Fund.

Charges Applied by Mutual Funds

Expense Ratio

Expense ratio is essentially a combination of various fees levied by the Mutual Fund company for a particular year. The expense ratio is calculated by summing up different fees such as management fees, different types of loads, account fees, recurring fees, etc.

Note: Generally, an actively managed fund has a higher expense ratio than a passively managed fund.

Formula:
Expense Ratio = (Total Expenses / Average Assets Under Management) × 100

• Total expenses are the costs incurred by the company in a particular year.

• Assets under Management (AUM) refer to the total value of the fund.

Example:
If total expenses = ₹2,00,000
Total AUM = ₹10,00,00,000
Expense ratio = (2,00,000 / 10,00,00,000) × 100 = 2%

How Expense Ratio Affects Your Investment Returns

Imagine you invest ₹1,00,000 in a Mutual Fund with an expense ratio of 2% per year.

• Initial Investment: ₹1,00,000

• Expense Ratio: 2%

• Annual Expense Fee = Investment Amount × Expense Ratio = ₹1,00,000 × 2% = ₹2,000

Assuming your fund generates a 10% annual return for 10 years:

• Without fees, the future value = ₹1,00,000 × (1 + 0.10)^10 = ₹2,59,370

• With fees (annual return after deduction = 10% - 2% = 8%), future value = ₹1,00,000 × (1 + 0.08)^10 = ₹2,15,890

Difference due to fees = ₹2,59,370 - ₹2,15,890 = ₹43,480

As we can see, the expense ratio reduces the fund value significantly over time.

Loads in Mutual Fund

Entry Load:
Charges levied when you buy units of a Mutual Fund. Every Mutual Fund has a different entry load structure. However, in recent times, SEBI has removed Entry Loads from calculating the expense ratio.

Exit Load:
Charges levied when you sell units of a Mutual Fund. Typically, exit loads are higher than entry loads as they discourage premature withdrawal.

Other Fees in Mutual Funds

• Management Fees:
  Charged for the expertise of the fund manager and research team who handle the fund’s daily operation and investment strategies.

• Account Fees:
  Maintenance fees charged for managing your individual investor account. This could be either annual or one-time.

• Transaction Charges:
  For purchasing Mutual Fund units beyond ₹10,000, companies may levy transaction charges typically ranging between ₹100 to ₹150 (1% to 1.5%).

Conclusion

Managing a Mutual Fund is not an easy task; it requires skilled professionals, for which various fees are charged. Although most funds are transparent, there can be hidden fees. Before selecting any Mutual Fund, it is important to understand all associated fees such as management fees, transaction fees, maintenance fees, entry and exit loads, etc.

All these fees directly affect your return on investment. To avoid unnecessary charges and get more clarity, consult with your financial advisor.

FAQ

1. How do fees affect a Mutual Fund?
All fees are directly linked with the expense ratio. A higher expense ratio indicates higher costs for the company, which reduces the fund’s net asset value and ultimately lowers your returns.

2. What is a good fee for a Mutual Fund?
An ideal expense ratio for Mutual Funds lies between 0.50% to 1%. Expense ratios above 1.5% are generally not favorable as they lead to lower returns.

3. How much Exit Load is good?
Exit loads are charges applied when selling units and generally vary from 0.5% to 1%. Exit loads tend to be higher than entry loads and are designed to discourage early redemption.

4. How can I find the expense ratio of a Mutual Fund?
Every fund provides transparency on its expense ratio. You can check this information on the Mutual Fund’s official website or through financial portals.

5. How does SEBI regulate Mutual Fund fees?
SEBI enforces strong limits on expense ratios to protect investors. The limits on fees depend on the net asset value of the fund and help maintain reasonable costs.

Join our Telegram channel today to get share market updates and knowledgeable content from time to time.
https://www.youtube.com/@SHAMBHURAJKHAMKAR

© Shambhuraj Khamkar Trading Academy
अर्थसाक्षरतेतून समृद्धीकडे
Call Us On: 8802809090