open-ira.com

The Financial Planning Center

Comprehensive Financial Planning

Mutual Fund Expenses

Mutual Fund Education

Why Mutual Funds?

What is a Mutual Fund?

How Mutual Funds Work

Mutual Fund Risk

Advantages/Disadvantages

Mutual Fund Expenses

Costs you Wont Find in a Prospectus

Mutual Fund Categories

Fund Management Styles

How an Investment in a Mutual Fund Makes Money

Investment Company Act of 1940

Where to Purchase Funds

Future Value Chart

Expenses

Because mutual funds are professionally managed investments, there are management fees and operating expenses associated with investing in a fund. These fees and expenses charged by the fund are passed onto shareholders and deducted from the fund's return.

These expenses are typically expressed as the expense ratio - the percent of fund assets spent (annually) on day-to-day operations. Expense ratios can vary widely among funds.  Expense ratios for mutual funds commonly range from 0.2% to 2.0%, depending on the fund.  Consult the fund's prospectus to determine the expense ratio for a specific fund.

Make yourself aware of all fees and expenses that impact the fund's return by reducing gains and increasing losses. 

Defining Mutual Fund costs

All mutual funds have costs, but some funds are more expensive to own than others.  Be conscious of the effect of seemingly minor cost differences which can significantly affect the growth of your investment assets, especially over longer periods of time.

Mutual fund costs fall into two main categories: One-time fees and ongoing annual expenses. Not all funds charge one-time fees, but all funds charge ongoing annual fees of some sort.

One-Time Fees

Loads

Loads come in three forms:

• Front-End Load

  • Charged when you purchase fund shares-usually class A shares, effectively reducing your purchase amount.

  • May be charged on reinvested distributions.

  • Can be as high as 8.5%. 

• Back-End Load

  • Charged when you sell fund shares.

  • Usually assessed based on the length of time you have held your shares, and declines over time.

  • Maximum allowed is 8.5%, but this is rarely seen.  According to Lipper Inc., back-end loads can be as high as 6% if you sell shares within one year. 

• Level Load

  • Deducted annually from fund assets as marketing and distribution costs.

  • Used to pay commissions to brokers and the fund's financial adviser, and is generally reported as part of a fund's operating expenses.

  • Can be as high as 0.75% per year, according to Lipper Inc.

How to Reduce a front-end load on class A shares

1. Rights of Accumulation (ROI):  Your current aggregate investment determines the initial sales load you pay.  You may qualify for reduced sales charges when the current market value of holdings (shares at current offering price), plus new purchases, reaches a specific break point determined by the individual fund.

2. Statement or Letter of Intention (SOI or LOI):  You may obtain a reduced sales charge by means of a written SOI/LOI which expresses your non-binding commitment to invest an amount in the aggregate over a break point    within a given period of time specified by the fund.

3. Break Points:  Sales charges are reduced when the amount of purchase exceeds a specified dollar figure.  The more money that is invested, the lower the sales charge will be.  Consult the individual fund's prospectus to determine a fund's break points.

Funds that have no sales charges are known as "no-load," while funds that charge loads of 1% to 3% are called "low-load."  Keep in mind, funds that have lower loads or no-loads tend to have higher operating expenses.  Again, read each fund's prospectus and compare "net" returns.

Ongoing Annual Expenses

• Management Fees

• Distribution and Service Fees

• Other Expenses

• Underlying Fund Expenses

Other fees

In addition to sales loads, fund companies and brokerages may charge other fees when you buy or sell fund shares.

A transaction fee is charged by some brokerage firms for purchasing or selling shares.  Transaction fees are sometimes referred to as commissions but are extra costs not normally paid if you were to purchase your fund directly with the fund family.  

Some fund companies and brokerages may charge a redemption fee if the fund is held for less than a certain period of time, generally between 90 and 180 days.  These charges are intended to discourage short-term trading that can raise a fund's administrative costs.  To find out more about fees read the fund's prospectus and consult your broker.

Not all funds assess these "extra" fees.  In fact, funds and brokerages may not charge a sales load, transaction fees or redemption fees.  When buying mutual funds, find out about all of the fees that might be involved and when they are charged.

Taxes and Fund Ownership

Since your goal as an investor is to keep as much as possible of what you earn from your mutual fund investments, you can't overlook the inescapable reality that taxes take a big bite out of bottom-line returns.  One way to shelter yourself from taxes is to purchase your funds in a retirement account. 

As a fund shareholder, you can be taxed on:

• Distributions (dividends & capital gains) maid  by the fund while you own its shares.

• Profits you make when you sell fund shares.

Taxes on Fund Distributions

A fund passes on to shareholders all the income or profits it earns from its investments.  Shareholders, in turn, are liable for any taxes due.  The distributions made by a fund to shareholders take two forms:

• Income Dividends.  The interest and dividends generated by a fund's investments.

• Capital Gains.  The profit a fund makes when it sells securities at a higher price than it paid for them.  The fund subtracts its capital losses from its capital gains to determine its net capital gains, which it distributes to shareholders.  (Net capital losses are not passed through to shareholders; the fund retains those to offset future capital gains.)

Generally, all income dividend and capital gains distributions are subject to federal income tax (and state and local taxes if applicable).  Exceptions are:

• Distributions received in tax-deferred accounts, such as 401(k) and 403(b)(7) plans, individual retirement accounts, or variable annuities.  Only withdrawals from such accounts are subject to tax.  (Withdrawals from a Roth IRA are exempt from taxes under certain conditions.)

• Income dividend distributions from municipal money market funds and municipal bond funds.  These distributions are exempt from federal and, in some cases, state taxes.  (Capital gains distributions from municipal bond funds are taxable, however.)

Apart from the exceptions noted above, you must pay taxes on distributions whether you receive them in cash or reinvest them in additional shares.

Distributions of income dividends and short-term capital gains (gains on securities held by the fund for one year or less) are taxed as ordinary income at your marginal tax rate, which can range from 15% to 39.6% currently but can change.  Distributions of long-term capital gains (gains on securities held by the fund for more than one year) are taxed at a maximum rate of 20% (10% for taxpayers in the lowest tax bracket) currently but can change.

For higher-income taxpayers, effective marginal tax rates may be higher because of limits on tax deductions and a "phase out" of personal exemptions. State and local taxes also increase effective marginal tax rates.

Please remember that IRS tax rules can change.  You should consult a tax adviser for guidance on your specific tax situation.

Taxes on Profits From Shares You Sell

When you sell fund shares, the tax rate on any capital gains is determined by how long you held the shares.  Short-term gains are taxed as ordinary income at your marginal tax rate, while long-term gains are taxed at a maximum rate of 20% (10% for taxpayers in the lowest tax bracket).

Keep in mind that:

• All capital gains from the sale of fund shares are taxable, even those from the sale of shares of a tax-exempt fund.

• Exchanging shares between funds is considered a sale, which may lead to capital gains. (An exchange involves selling shares of one fund to buy shares in another.)

• Writing a check against an investment in a fund with a fluctuating share price (generally all funds except money market funds) also triggers a sale of shares and may expose you to tax on any resulting capital gains.

The impact of expenses on return over time is why you should consider expenses when you invest in mutual funds. Even though published return data is always reported net of expenses, higher expenses will reduce your investment return.

Continue

If You Desire More Time to Pursue Life's Pleasures, Find Out How a Certified Financial Planner Can Help.

Click Here for more information on financial planning and The Financial Planning Center

Contact: ProActive Financial Planning

 |  HOME  |  SITE MAP  |  MUTUAL FUND CENTER  |  IRA CENTER  |  EDUCATION CENTER  |  BOND CENTER  | 

|  FINANCIAL PLANNING CENTER  |