Mutual Fund Fees

Canadians are getting ripped off! You may have heard people say that they don’t pay any fees to invest their money. Or maybe you even think that yourself. Don’t kid yourself, the banks and other investment companies are in business to make money, they aren’t investing your money for free. Of course, people need to be paid to provide a service, but make sure you know what you’re paying in fees and getting value in return.

In today’s post I’ll outline the various fees associated with purchasing and holding a mutual fund.

Lots of people still think they’re getting their investments managed for free because fees are often embedded within the mutual fund. Thanks to increased exposure, investors are waking up to the fact that we pay some of the highest mutual fund fees in the world! The more you pay in fees on an ongoing basis, the less money you keep in your pocket and therefore the less you have available to fund your retirement or other financial goals. That being said, going for the lowest fee option might also not be appropriate if the investment isn’t structured properly and isn’t right for you and the risks you’re willing to take.

What is a MER?

Ongoing fees you pay are expressed by the Management Expense Ratio or MER of the fund. The management expense ratio outlines the total fees you pay to your advisor and the mutual fund company, including the portfolio manager’s salary and research expenses. This is why index mutual funds have lower MER’s than actively managed fund, since they don’t need to pay for analysts and research. The higher the MER you pay, the lower returns you will get. For example, let’s saying you’re paying high fees of 2.5% for your balanced 60% Equity, 40% Fixed Income Fund. If that fund earns a 5% return, you’ll only actually receive 2.5% of that return.

There are many ways your advisor can get paid. The most common way is through the trailing commission. This is where the mutual fund company will pay your advisor a certain percentage each year. This amount is included in the MER of the mutual fund. So back to our example, let’s say that you’re paying 2.5% for your mutual fund, and your advisor receives 1.25% a year for their services. The mutual fund receives 1.25% for managing the fund, and your advisor gets 1.25% for giving you advice. The problem with this type of fee structure is that, given two suitable options to invest your money, your advisor is allowed to select the fund that pays them more, even if that means you pay more for essentially the same fund.

A front-end load or initial sales charge is a fee paid to your advisor when you purchase the fund, and is expressed as a percentage of the purchase amount. The amount after this sales charge has been paid to your advisor is then invested. For example, if you purchased a fund for $1,000 and there was a 5% front-end load, you would pay $50 to your advisor up front and only $950 would be invested. You would still be paying the annual MER on the fund on an ongoing basis, and often pay a trailing commission to the advisor as well.

A back-end load or deferred sales charge (DSC) is where you get to invest your full $1,000 in the mutual fund up front, but if you decide to sell out of the fund before a certain period of time, often between 5 and 7 years, you have to pay a fee at the time of redemption. If you’re selling within the first year or two, this fee is often as high as 5% or 6% of your assets! Your advisor gets a hefty commission up front from the fund company, so the fund company wants you to stay in the fund and pay the MER for as long as possible to recoup their costs. This gives investors much less flexibility to move their funds around. Like the front-end load, the advisor usually gets a trailing commission from the fund company in addition to the initial commission.

But wait! There’s more!

Some other fees associated with mutual funds include a switching fee, where you have to pay up to a certain amount to switch from one fund within the provider to another fund. For example, if you had a Canadian Equity fund with RBC and you wanted to switch that to a Canadian bond fund, still at RBC, you can be charged up to 2% to make that switch. The final most common fee associated with mutual funds is a short-term trading or redemption fee. If you sell or switch your investments within a certain period of time of purchasing it (say 7 days), you may have to pay a fee to do so, often 2% of the value of your investment.

Now, not ALL mutual funds have so many fees. A No Load fund doesn’t have any direct selling charges associated with it. So you pay the MER associated with the fund, but no initial or deferred sales charges. An F-class fund is one where the advisor receives no compensation from the fund provider. As such, the MER is much smaller than other classes of funds. In order to get paid, the advisor will often charge a percentage fee based on the assets invested (assets under management) separately.

In summary, if you hold onto a mutual fund, your total expenses will include the MER, plus any sales commissions you pay when you purchase and/or sell a mutual fund. All fees associated with a mutual fund are provided in each fund’s fund facts document. These are often available online and if you’re working with an advisor, they can, and should, provide you with a copy.

Which fund is appropriate for you may depend on your situation, but in my opinion, a no-load, F-class fund with a separate management fee is often the most flexible and transparent option when investing in a mutual fund.

Do you know what fees you’re paying for your investments? I’d love to hear about your experiences with mutual funds and any questions you have about the fees associated with them in the comments below!