Mutual funds: All you need to know about expense ratio in mutual funds

The mutual fund expense ratio is one of the key factors investors look into at the time of selecting the right mutual fund scheme for themselves. If you don’t know what a mutual fund expense ratio is, and how it can affect your fund returns, then you’re in the right place. In this blog post, we will discuss everything you need to know about the mutual fund’s expense ratio and other important things. Let’s dive in! 

What is the mutual fund expense ratio ?

The mutual fund expense ratio is a ratio that helps in determining the cost of managing a fund. It is calculated by dividing the total expenses of a fund by the total number of assets under that management. There are certain costs a fund house incurs which makes a part of its expense ratio. 

Generally, the fund house has its fund management team that tracks down the companies and markets in the portfolio. They make important buying and selling decisions of securities in order to meet the goals and objectives of the mutual fund policy. Besides, it also incurs expenses such as registering, custodian, audit, legal fees, and the amount that needs to be paid for sales and marketing of its products. All of these costs are recovered from the unit holders on a day-to-day basis. Also, the daily NAVs (net asset values) of a mutual fund plan are reported only after deducting these expenses. 

Main components of expense ratio 

There are several factors that play an important role in the successful performance of mutual funds. The combined costs of these factors decide the value of the expense ratio. The components of a mutual fund expenses ratio are :

Management fees

Management fee is the cost allocated for the payment to the people managing the operations of a mutual fund scheme. Fund and portfolio managers and advisers give their significant amount of time and energy to find out the best investment opportunities for you. Usually, an asset base of 0.5-1% is deducted as the management fee of a fund. 

Maintenance Fees 

This is the cost incurred while ensuring smooth and hassle-free operations of a mutual fund. Maintaining investor’s records, entry and exit fee of assets, customer assistance, etc. come under this tab. 

12B-1 Fee 

This is the amount that is spent on the promotion and advertisement of a mutual fund. 

Entry Load

Enter load is the fee every investor needs to pay at the time of joining a mutual fund. Know that different mutual funds offer different entry loads. However, according to recent SEBI regulations, the entry load is excluded from the total expense ratio calculations of a fund. 

Exit Load

Just like the entry load, exit load is the amount investors need to pay at the time of exiting from the mutual fund. This fee is applicable on the total investment of an investor and falls somewhere near 2 to 3%. 

Brokerage fees

Regular mutual funds come with brokerage fees, while the direct funds incur no such cost. 

Apart from all these factors, the mutual fund expense ratio also depends on the maturity and duration of a mutual fund. You can easily learn about these details from the official website of the fund you’re planning to purchase. 

How does expense ratio impact fund returns? 

The expense ratio determines how much a specific mutual fund charges in terms of percentage, on an annual basis, for managing your investment portfolio. Suppose, if you invest Rs. 10,000 in a mutual fund that comes with an expense ratio of 2%, which means you have to pay RS. 200 in order to manage your funds. In simple words, if the returns are equal to 15% and the ER of a fund is 2%, then you’ll earn around 13% of the actual returns. 

In conclusion, a lower expense ratio means more profit, while a higher expense ratio means less profitability.