Fees and charges of investing in mutual funds in India

Investing in mutual funds is an easy and popular way to grow your money over time. However, like with any financial product, there are various costs for you to consider. Understanding these costs is important for every investor because they can affect your returns. If you’re a new investor, it’s likely that you find the various fees and charges a bit confusing.

So, in this article, we’ll take a look at everything you need to know about mutual fund fees and charges in an easy-to-understand manner. With that, you can gain an understanding of the different types of charges associated with mutual fund investments, how they impact your investment, and how you can make informed decisions.

• Table of contents

1. What are the charges associated with mutual fund investments?
2. How to calculate expense ratio?
3. Why do regular plans have a higher expense ratio?
4. Difference in mutual fund charges for direct and regular plans
5. What is the maximum expense ratio limit in India?
6. SEBI guidelines on mutual fund charges

What are the charges associated with mutual fund investments?

When you invest in mutual funds, you also pay an included fee for the services provided by the fund manager and the mutual fund company. These fees cover the cost of managing your investments, operating the fund, and sometimes even distributing the mutual fund to investors. Here are the main types of charges you may come across:

• Expense ratio: This is the most common fee and includes the costs of managing the fund.
• Exit load: A fee you pay when you sell your mutual fund units before a specified period.
• Transaction charges: Fees for purchasing mutual fund units.
• SIP charges: Costs associated with investing through a Systematic Investment Plan (SIP).
• Miscellaneous fees: Such as account maintenance fees or service charges.

Let’s now take a more detailed look into the most important of these charges: the expense ratio.

Expense ratio

The expense ratio is a fee that covers the cost of running and managing a mutual fund. This fee is deducted from the fund's assets, which means it directly impacts the returns you get from your investment. The expense ratio includes:

• Management fees: Paid to the fund manager for managing the investments.
• Administrative costs: Includes costs for record-keeping, customer service, and other operational expenses.
• Marketing and distribution costs: These are used for advertising and selling the fund.

The expense ratio is represented as a percentage of the total assets managed by the fund. For example, if a mutual fund has an expense ratio of 1.5%, it means that 1.5% of the fund's assets are used each year to cover these costs.

How to calculate expense ratio?

Calculating the expense ratio is very simple. You can do it by gathering the following information and then using the formula:

1. Total expenses: Add up all the expenses associated with running the fund. This includes management fees, administrative expenses, and any other applicable charges.
2. Total assets: Determine the total assets under management (AUM) of the fund.
3. Expense ratio calculation: Divide the total expenses by the total assets and multiply by 100 to get the percentage.

For example, if the total expenses of a mutual fund add up to Rs. 1 crore and the total assets of the fund are Rs. 100 crore, the expense ratio would be:

Expense Ratio = (Total Expenses / Total Assets) × 100
Expense Ratio = (1 / 100) × 100 = 1%

So, in this case, the expense ratio is 1%.

Why do regular plans have a higher expense ratio?

At this point, it’s important to understand why regular plans have a higher expense ratio compared to direct plans. Regular plans are mutual fund schemes where you invest through an intermediary, such as a broker or a financial advisor. These intermediaries help you choose and manage your investments, and they are compensated for their services.

This compensation is included in the expense ratio of the regular plan. As a result, regular plans tend to have higher expense ratios because they include distribution and commission costs. On the other hand, direct plans are those where you invest directly with the mutual fund company without any intermediaries. Therefore, they have a lower expense ratio because there are no distribution costs involved.

Difference in mutual fund charges for direct and regular plans

Now, let’s talk about the difference in charges between direct and regular plans. As mentioned earlier, regular plans include the cost of commissions paid to intermediaries. This means that the expense ratio for regular plans is typically higher than that of direct plans.

Here’s a summary of the key differences:

• Direct plans: Lower expense ratio, no intermediary commissions, potentially higher returns.
• Regular plans: Higher expense ratio due to intermediary commissions, but you get the benefit of advisory services.

If you are comfortable managing your investments on your own, direct plans might be more cost-effective. However, if you prefer having professional advice, the higher cost of a regular plan may be worth it.

What is the maximum expense ratio limit in India?

In India, the Securities and Exchange Board of India (SEBI) has set limits on the maximum expense ratio that mutual funds can charge. These limits vary depending on the type of fund and the amount of assets under management (AUM). Here’s a quick overview of the expense ratios:

AUM (in Rs. Crores)	Equity funds	Other than equity oriented funds
First 500	2.25%	2.00%
Next 250	2.00%	1.75%
Next 1,250	1.75%	1.50%
Next 3,000	1.60%	1.35%
Next 5,000	1.50%	1.25%
Next 40,000	Total expense ratio reduction of 0.05% for every increase of Rs.5,000 crores of daily net assets or part thereof
On balance of the assets	1.05%	0.80%

These limits are designed to protect investors from excessively high fees and ensure that mutual funds remain a cost-effective investment option.

SEBI guidelines on mutual fund charges

It’s a good idea to stay informed about the guidelines set by SEBI with regard to mutual fund charges. SEBI regulates the mutual fund industry in India and ensures that investors are treated fairly. Here are some of the key SEBI guidelines on mutual fund charges:

• No entry load: SEBI has banned entry loads, which means you don’t have to pay any fee when you buy mutual fund units.
• Expense ratio limits: SEBI has set maximum limits on the expense ratio, as discussed earlier.
• Transparency: Mutual funds are required to disclose all fees and expenses clearly in the offer document and on their websites.
• Exit loads: Exit loads are allowed, but they must be clearly disclosed to investors at the time of investment.

These guidelines are in place to protect investors and ensure that they have a clear understanding of the costs involved in investing in mutual funds.

Conclusion

Understanding the fees and charges associated with mutual funds is essential for making informed investment decisions. These charges, including the expense ratio, exit loads, and SIP charges, can impact your overall returns. By being aware of these costs and how they are calculated, you can choose the right mutual funds that align with your financial goals. While lower costs are generally better, it’s also important to consider the quality of the fund management and the services provided. Whether you choose direct or regular plans, make sure you understand what you’re paying for and how it affects your investment returns. Before investing in SIP, you can take the help of an SIP growth calculator to estimate your potential returns, and then deduct the fees and charges from it to get a realistic picture of how these charges will effect your return potential. However, do note that the calculator's estimates are just projections. Returns are not guaranteed and depend on market movements.

FAQs

What are exit loads, and when are they levied?

Exit loads are fees charged when you redeem (sell) your mutual fund units before a specified period. They are levied to discourage short-term trading.

Are entry loads a part of mutual fund fees and expenses in India?

No, entry loads have been banned by SEBI in India, so you do not have to pay any fee when purchasing mutual fund units.

What are the fees not included in the expense ratio?

The fees not included in the expense ratio may include exit loads and transaction charges.

Mutual Fund investments are subject to market risks, read all scheme related documents carefully.
This document should not be treated as endorsement of the views/opinions or as investment advice. This document should not be construed as a research report or a recommendation to buy or sell any security. This document is for information purpose only and should not be construed as a promise on minimum returns or safeguard of capital. This document alone is not sufficient and should not be used for the development or implementation of an investment strategy. The recipient should note and understand that the information provided above may not contain all the material aspects relevant for making an investment decision. Investors are advised to consult their own investment advisor before making any investment decision in light of their risk appetite, investment goals and horizon. This information is subject to change without any prior notice.