Table of Contents
The total expense ratio (TER), which is used to calculate the total costs of running a mutual fund or other investment vehicle, is a measure of these costs. These expenses are generally made up of management fees as well as supplemental costs including trading fees, legal fees, auditor fees, and other operational costs.
The fund's total expense ratio (TER) is calculated by dividing the fund's entire cost by its total assets. The TER is often referred to as the net expense ratio or the expense ratio after reimbursement.
What is TER in mutual funds?
The Total Expense Ratio or TER in mutual fund is the overall charge related to handling, functioning, and managing a fund this is expressed according to the unit. TER is also called the Net Expense Ratio or after-reimbursement fee ratio. TER is the total cost of the mutual fund divided by the total assets of the mutual fund which gives you a percentage amount. These charges that the fund incurs are recovered from the investor. The NAV – Net Asset Value is calculated only after subtracting these expenses every day.
Total expense ratio meaning
The expense ratio is an annual maintenance fee levied through a mutual budget to finance its charges. It consists of annual working charges, such as management fees, allocation charges, operational and marketing charges, etc. of the fund.
The value of TER in mutual funds relies upon the dimensions or size of the mutual fund. A fund working with a smaller pool of economic assets has to allocate a specific share in the management of finest control. This thereby will increase the relative cost of the charges regarding the overall quantity of budget available.
On the contrary, in the case of large-cap mutual funds, the quantity reserved to meet the expenses is much smaller subject to the overall asset cost. Therefore, fee ratios have an inverse relationship with the size of the particular mutual fund.
This can be clarified through the expense ratio formula, i.e. overall charges divided by total assets of the funds. If the costs remain constant, and the asset base is on the higher side, the ratio will be lower and vice versa.
Major costs that add up to TER in mutual funds.
How mutual funds work and what is expense ratio in mutual funds is quite complicated, but to ensure transparency, investors will be provided with complete information on these costs and their breakdown. These fees will be disclosed every 6 months in a statement indicating the amount that will be deducted from the investor's account to cover these fees.
1. Management Fee
The performance of a mutual fund is closely related to its fund manager. Fund manager strategies and decision-making skills typically determine the return and income of a mutual fund. Therefore, the fund-house must compensate its manager for their expertise.
2. Administrative costs
Managing Mutual Funds involves a variety of charges like marketing fees, legal and custodian fees, registration charges, etc, which add to the cost of the fund.
3. Distribution fee
Some investment trusts charge a distribution fee as a commission to sell the shares of the investment trust. This additional component is added in the TER of the fund's regular plan.
4. Maintenance work
Total costs and other administrative tasks incurred to keep things running smoothly are added to this tab. Maintaining proper records for investors, portfolio asset entry/exit fees, customer support, etc. can be termed as investment trust management costs.
5. 12B-1 charge
This is equivalent to the amount spent advertising each investment fund. To lay the foundation for sufficient wealth, there is a need to disseminate information about it to the masses. The fee for a new investor who is allocating funds in this respective mutual fund is also calculated according to the 12b Fee and is part of the fund's total cost ratio.
6. Entry load
This is the fee that the investor pays at the time of joining a mutual fund, which tends to lower the margin of the profit he has earned from the respective fund, However, as per the latest guidelines issued by SEBI, entry load has been eliminated from the TER in mutual funds.
7. Exit Load
To discourage investors from withdrawing from a trust. This fee is paid for the total investment of the individual, which is usually 23%. It is used as a tool to discourage people from withdrawing funds from mutual funds.
8. Brokerage fee
Brokerage fees and taxes on the settlement of securities in the system.
9. All other operating costs
This includes Legal and bookkeeping fees, sales, and marketing costs, other costs related to system assets, such as rent, electricity, and telecommunications. Total expense ratios also rely upon the duration and maturity of a mutual fund.
SEBI limit on TER in mutual funds
The Securities and Exchange Board of India (SEBI), under Regulation 52 of SEBI Mutual Fund Regulations, effective April 1, 2020, has defined certain limitations on the TER that a mutual fund can charge an investor which is:
TER on Equity funds
A maximum TER of 2.25 % for the first Rs.500 crore of net assets averaged daily net assets. Other slabs:
on the next Rs. 250 crores 2.00%
on the next Rs. 1,250 crores 1.75%
on the next Rs. 3,000 crores 1.60%
on the next Rs. 5,000 crores 1.50%
Above Rs. 50,000 crores 1.05%
TER on Debt funds
The limit for debt fund for the first Rs.500 crore of net assets averaged daily net assets is 2.00%. and other slabs are,
on the first Rs. 500 crores 2.00%
on the next Rs. 250 crores 1.75%
on the next Rs. 1,250 crores 1.50%
on the next Rs. 3,000 crores 1.35%
on the next Rs. 5,000 crores 1.25%
Above Rs. 50,000 crores 0.80%
Scheme-related expenses include inflows from retail investors from cities beyond Top 30 cities charged proportionately under Regulation 52(6A)(b) and additional expenses permissible under Regulation 52(6A)(c) towards various permissible expenses with scheme charging exit load.
What is expense ratio and how is it calculated?
Let us assume you invested in a mutual fund with total assets of Rs.100 crores. It incurs administrative expenses of Rs.25 lakhs per annum and pays management fees of Rs.35 lakhs. Other expenses amount to Rs.20 lakhs.
The TER would be calculated as follows:
Total Expenses = Administrative costs + Management fees + Other expenses
= Rs.25,00,000 + Rs.35,00,000 + Rs.20,00,000
TER = Total Expenses/ Total Assets = Rs. 80,00,000/ Rs.1,00,00,00,000 = 0.008 or .8% of investment
What is the Impact of TER in mutual funds on returns?
TER can have an impact on your returns as an investor -especially if these are actively managed mutual funds. The higher TER charged to the investor simply means lower returns. But this can be further affected by the funds under management. Yet, TER impacts the Net Asset Value (NAV) of the investments directly. To analyze mutual fund benefits, it is essential to compare different TERs
Limitations of the Total Expense Ratio - TER in mutual funds
There are a few changes, that are not included in the TER, instead, they are deducted from the investment capital like securities transfer tax, stockbroker fees, commission, and annual adviser fees.
TER in mutual funds or the Total Expense Ratio is significant while choosing a mutual fund scheme along with other imperatives like the track record of a mutual fund and its consistency of returns. It is highly recommended to research and analyze the various available online and offline options available to make investments in a relevant mutual fund. Total Expense Ratio (TER) is the measure of the total expenses in running a scheme and is used by investors to compare the costs and analyze the returns of the scheme. Funds that consistently show a high TER may not provide high returns, so be selective while investing.