What is an Expense Ratio?
The expense ratio is the above expense or cost of running and managing a mutual fund that is charged to the scheme.
If the funds’ assets are small, then the expense ratio can be high and vice versa. This is because the fund has to meet its expenses from a restricted or a smaller asset base.
The expense ratio includes many charges for running the mutual fund schemes systematically. This cost recovered from the mutual fund investors on a daily basis.
These charges are revealed via a statement every 6 months. The amount deducted from the account of the investors to meet these costs.
There are five major types of expenses as part of the expense ratio:
1. Management Fees
These charges are allocated towards the payment of the people responsible for the operation of a mutual fund. The management fee is compensation for fund managers’ expertise.
Generally, this annual fee is about 0.50% to 1% of the funds’ assets.
2. Administrative Costs
Keeping records, customer support, and service, information emails, and communications are some expenses of running the cost.
3. 12-1b Distribution Fees:
Some mutual funds collect the 12-1b distribution fee for advertising and promotional purposes. Generally, they charge their shareholders to promote the fund to the investors.
4. Entry Load
It is the amount that has to be paid by an investor while he joining a mutual fund.
5. Exit Load
Similarly, exit load is the amount payable when a person chooses to exit from a mutual fund.
How Does the Expense Ratio Impact Fund Return?
Normally, Expense ratios are deducted from total revenue generated by a mutual fund, before it disbursing to the investors.
Higher expense ratios mean a higher proportion of the returns being removed, thereby providing lower returns on investments.
For example, if an investor invests Rs.30,000 in a fund that has an expense ratio of 2%, then it means that you need to pay Rs.600 to the fund house to manage your money.
Expense Ratio Implications
The expense ratio indicates the sales percentage to the total of individual expense or a group of costs. A lower rate means more profitability and a higher rate means lesser profitability.
Expense Ratio Limit By SEBI
To protect the interest of the interests of an investor all expenses of an Assets Management Company (AMC) / Fund House must be charged within the limit specified under Regulation 52 of SEBI Mutual Fund Regulations.
As per the limits specified by the SEBI under Regulation 52 of SEBI Mutual Fund Regulations, the maximum Total Expense Ratio (TER) charged by an assets company is not more than 2.5% for the first 100 crores of average weekly net assets, 2.25% for the next Rs.300 crore, and 2% for the next Rs.300 crore.
Expense Ratio Calculator
Every fund house publishes the expense ratios for all its mutual fund schemes in its fact sheets that are updated every month and are available on the websites of AMCs. Thus, investors have don’t need a calculator to know the expense ratio of a mutual fund scheme.