How Mutual Fund Fees Work

What Are Mutual Fund Fees?

Virtually all mutual funds charge fees to offset operating costs and other expenses. Actively managed funds are associated with higher fees because they have a portfolio manager who strategically trades securities on behalf of the fund. The goal is to outperform the fund's targeted stock market index, like the S&P 500. Passively managed funds attempt to match the returns of whatever market index they track. They also charge fees, but fees tend to be lower than actively managed funds.

Types of Mutual Fund Fees

Mutual funds charge fees in two main categories: fees that are based on the choices you make as an investor, and fees that are charged to all account holders.

Shareholder Fees

These fees are based on your individual investment choices and account activity

• Load fee: Actively managed mutual funds typically charge a load fee whenever new shares are purchased. This fee compensates the stockbroker or financial advisor who coordinated the transaction. You might pay it as an annual percentage of your portfolio or be charged a flat fee of 1% to 2% of each sale.
• Exchange fee: If you invest in multiple funds within the same fund group, you might encounter a fee for exchanging shares between funds.
• Redemption fee: This is a fee you might pay when you redeem your shares. While load fees compensate a broker or financial advisor, redemption fees are paid to the fund itself. It's typically capped at 2% of the sales amount.
• Purchase fee: Apart from load fees, you may be charged a separate fee whenever you purchase mutual fund shares.
• Account fee: Some mutual funds have account minimums. You might be charged a fee if your account falls below a certain amount.

Operating Expense Ratio

Mutual funds charge expense ratio fees to cover their annual operating costs. That can include administrative costs, technical support and compensation for the fund manager and their staff. Financial services company Morningstar reports that, in 2022, the average expense ratio for actively managed funds, including mutual funds and exchange-traded funds (ETFs), was 0.59%. It was 0.12% for passively managed funds. You may see the following fees wrapped into a mutual fund's expense ratio:

• Management fee: This fee goes to the fund's investment advisor and comes directly out of fund assets.
• 12b-1 fee: This typically covers the cost of sales and marketing. It can also be used to pay for employee bonuses or certain shareholder services. The maximum 12b-1 fee is 1% of your fund assets.

Load vs. No-Load Mutual Funds

Load fees are common for actively managed mutual funds, but you can opt for no-load funds. That can be an attractive perk, but be sure to read the fine print. These passively managed mutual funds still charge operating expenses and might also tack on other fees. One upside is that a no-load fund's 12b-1 fees cannot exceed 0.25%. But as with all passively managed funds, you won't have a manager to make investment decisions for you.

Fee structures can also vary depending on the types of shares a mutual fund offers. These are called share classes, and there are three main types:

• Class A shares: These usually charge an upfront sales load but often have lower expense ratios. Load fees may go down as investment sizes go up.
• Class B shares: These generally have higher back-end fees, and expense ratios are generally more than class A shares. But if you hold your shares long enough, they might automatically convert to class A.
• Class C shares: These may have higher annual expenses, but load fees are typically lower than class A and class B shares.

How to Compare Mutual Fund Fees

1. Identify potential mutual funds to invest in. You can buy mutual funds from brokerages and fund management companies. On top of fees, look at each fund's minimum initial investment. This typically ranges anywhere from $500 to $3,000.
2. Compare fees. Once you've identified a few funds, review each one's prospectus. This should provide information about the fund's objectives and investment goals, as well as its past performance and fund managers. This is also where you'll find its fee structure.
3. Consider if it fits into your overall investment strategy. If you aren't sure, FINRA's fund analyzer might help. It can show you how fees and expenses could affect the fund's value over time.

Frequently Asked Questions

• Do All Mutual Funds Have Management Fees?

  If you're investing in mutual funds, you can expect to find management fees tucked into their expense ratios. These costs, along with some administrative fees, may be paid to the fund's investment advisor directly from fund assets.

• Are Mutual Fund Fees Tax-Deductible?

  The short answer is no, but if you have mutual funds in a tax-deferred retirement account, you won't pay taxes until you begin making withdrawals. Mutual funds held in a taxable brokerage account are treated differently and could result in an annual tax liability.

• What Is Considered High for Mutual Fund Fees?

  Mutual fund fees vary from one fund and brokerage to the next. Whether a fund is actively or passively managed also comes into play. Based on average fees, the amounts below might be considered high:

  • Load fees or redemption fees that exceed 2%
  • Expense ratios on actively managed funds that are greater than 0.59%
  • Expense ratios on passively managed funds that exceed 0.12%

The Bottom Line

There are many types of mutual fund fees. They tend to be higher if there's a fund manager actively making investment decisions on behalf of the fund. But high fees don't guarantee better returns. It's always wise to read a mutual fund's prospectus to get a feel for its investment style and past performance.

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