Before investing in Mutual funds one must be aware of the different costs associated with it. One such cost is the Total Expense Ratio. In this article, we will explain TER in Mutual Fund and how you can calculate it.
Total Expense Ratio in Mutual Fund: Formula and Explanation
When we talk about mutual funds there are terms like entry load, exit load, maturity period, etc. To make things even more complicated you have different types of funds that you can invest in such as contra funds, focused funds, etc.
However, while the other stuff mentioned above is basic, something like expense ratio might not be a term that everyone must have come across before entering the world of mutual funds and so let’s take a look at what it means.
The total Expense Ratio in Mutual Fund is also known as TER. It is the overall charge that you pay for handling, functioning, and managing a fund as expressed by the unit.
Other names of TER are Net Expense ratio or after reimbursement fee ratio. Simply said it is the total cost of a mutual fund divided by the total assets of a mutual fund.
This gets you an amount in percent. The charges incurred by a fund are recovered from the investors. Every day before NAV can be calculated once these expenses have been subtracted.
The expense ratio is an annual maintenance fee that is levied through a mutual budget to finance its charges. Charges of the fund such as annual working charges, operational and market charges, management fees, allocation charges, etc. are included in it.
And the value of TER depends on the dimension or size of the fund. The expense ratio and size of the fund have an inverse relation.
The factors mentioned below also contribute to TER,
- Management fees
- Administrative costs
- Distribution fee
- Maintenance work
- 12B-1 charge
- Entry load
- Exit load
- Brokerage fee
- All other operating costs
Total Expense Ratio Formula
There are quite a few elements that make up the expense ratio and so one would feel that the formula for the same might be tough or complicated since so many elements need to be fit into the formula, however, that is not the case.
The total expense ratio formula is easy and below we will not just mention the formula but also an example of the same.
So after having looked at the meaning of total expense ratio in mutual funds we have now come to look at its formula that goes as,
- Expense Ratio = Total expenses/Average value of the Portfolio
Now to put things into perspective let’s look at an example of the same.
Let’s consider a fund management house that has assets worth 5 crores under management. Now this same house charges, not just management fees but also administrative fees as well as a few other charges that total up to 5 lakhs. Now using the formula we would arrive at something like,
- Expense Ratio = 5 lakhs/5 crores = 1%
This 1% is the amount of total assets that will have to be paid out to be able to manage the fund. So to not make a loss the return provided to you by the fund house needs to be greater than this sum.
So if the fund makes a 15% profit and 1% is the expense ratio then your profit comes to 14% after the expense ratio has been deducted.
Total Expense Ratio Calculator
So now we have seen what the total expense ratio in mutual fund means and have also seen the formula of the same which brings us to its real-life application.
You could be dealing in equity funds or exchange-traded funds. It does not matter you will be liable to pay the TER regardless. And charges of various factors may impact the amount that you might end up paying for your mutual fund investment.
To determine the total expense ratio the two most important things to know are total fund costs and total asset costs.
With just these two numbers you can proceed to use the total expense ratio calculator to determine how much amount you would be liable to pay as far as your mutual fund investment is concerned.
All you then need to do is divide total fund cost by total fund assets and that would give you the expense ratio. This way you can compare various funds and determine which one suits your purpose better.
Also Read: What do we Mean by Exit Load in Mutual Fund?
Average Total Expense Ratio
As mentioned earlier when explaining the total expense ratio in mutual funds there are different types of funds and charges involved. While the charges may come from many or a few factors the type of funds makes a significant change to the % charged in TER.
For the same amounts, the percent charged for the Equity fund and debts fund can vary which will be shown in the table below.
| AUM (Crores) | TER for Equity Funds | TER for Debt Funds |
|---|---|---|
| 0 to 500 | 2.25% | 2% |
| 500 to 750 | 2% | 1.75% |
| 750 to 2,000 | 1.75% | 1.5% |
| 2,000 to 5,000 | 1.6% | 1.35% |
| 5,000 to 10,000 | 1.5% | 1.25% |
| 10,000 to 50,000 | Starts at 1.5% but goes down by 0.05% for every additional 5,000 crores | Starts at 1.25% but goes down by 0.05% for every additional 5,000 crores |
| More than 50,000 | 1.05% | 0.80% |
The thing with expense ratios is that they need to be paid even when the fund is making a loss and that is not very ideal. As long as you are invested in the fund you will be paying an expense ratio.
From your corpus daily some amount will be going toward the payment of such fees and reducing your profit.
We have seen that the limit is set at 2.25% and 2% for equity funds and debt funds, however, that is far from being the average total expense ratio. A total expense ratio of between 0.5% and 0.75% is considered to be good.
Anything higher or lower might not be good and should be compared with other funds to find a better alternative.
Total Expense Ratio Vs Ongoing Charges
We now know the meaning of total expense ratio in mutual fund among other terms, however, there are quite a few more such terms that you might come across but might know the meaning of.
Ongoing charges are one such term that you might not have heard of when it comes to mutual funds and so we will now tell you a bit about it.
Mentioning the term in the article might make many wonder that the two are being compared and that we will share a total expense ratio vs ongoing charges comparison.
However, there is barely any point to separate or distinguish the two apart from them being terms used prominently in different countries. In India, the total expense ratio is the preferred term while in Europe ongoing charges are the preferred term.
So just like the total expense ratio the ongoing charge is also the fee that is charged to run a fund and includes various elements such as management fees, and other charges that might be required to manage the costs of running a fund.
Also Read: 13 Best App for Mutual Fund in India
Things to Remember
The expense ratios come with certain general rules that are:
- An actively managed fund will have a higher operating expense than a passive or index fund. And this is because an active fund is connecting real-time research to determine the best securities that shall be owned. However, the result might not reflect the same.
- An international fund will have a higher fee than a domestic fund. The few to buy an international fund might be more and this cost is passed along in the form of a higher expense ratio.
- Small-cap funds may have higher charges than large-cap funds and that is because it costs more to buy and sell the former as compared to the latter. Again the high cost faced by the company is passed along to you in the name of higher expense fees.
- If you are looking for being charged the lowest fee then you might want to go for index funds or passively managed funds. These types of funds have proven to be a strong indicator of good performance by the fund in the future.
- Similar funds may command different fees when different companies are compared. A large-cap equity fund at a certain company may charge significantly more or less than what another company may charge for a similar fund.
So in short there is nothing to compare the total expense ratio to ongoing charges since they are more or less the same thing, just widely used in different countries.
Just by using a total expense ratio calculator, you can make sure to avoid funds that take away more money in the name of various charges and reduce your profit.
You should focus on funds with a good or average total expense ratio and go for it to help your portfolio do better when it comes to scoring high returns.
Lastly, we saw that there is no total expense ratio vs ongoing charges comparison since they are interchange terms used in different countries and so with that, we have imparted our daily dose of knowledge.
