To pay for management and distribution costs and other administrative liabilities, open-end management companies charge fees to investors when they buy shares of mutual funds.
- Front-End Load: When investors buy shares of a mutual fund, they usually pay a front-end load, which is simply the NAV plus a sales charge. The mutual fund's sales fee is stated as a percentage of the public offering price (POP).
The sales charge percentage is computed by subtracting the NAV from the POP and dividing the total by the POP:
Sales charge = POP-NAV
Offering price POP
For instance, a mutual fund is quoted in the Wall Street Journal as 22.34-24.13. The POP will be the higher of the two numbers, so the lower number is the NAV. Using the formula above, we can calculate the sales charge as a percentage of the offering price:
24.13 - 22.34 = 1.08 = 4.48%
- Back-End Loads and Contingent Deferred Sales Charges: An investor can buy a mutual fund at the NAV in certain instances. When the fund is redeemed, the management company imposes a sales charge depending on how long the investor has held the shares. The amount of this back-end load decreases the longer the investor owns the shares. As long as the investor holds on to the shares beyond the time period during which a contingent deferred sales charge (CDSC) is applicable, no sales charge will be enforced, and the shares will be redeemed at the NAV with no sales charge being assessed upon redemption.
The following is an example of how a CDSC scale might work:
Years owning fund CDSC as a percentage of amount invested 0-1 5% 1-2 4% 3-4 3% 4-5 3% 5-6 2% 6-7 1% 7 or more 0%
In this example, if the fund holder owns shares for more than seven years, no charge is applied by the management company when the shares are redeemed. Shares held the longest are redeemed first. The charge is calculated on either the original value of the shares or the current NAV, whichever is less.
Under Section 12b-1 of the Investment Company Act of 1940, the Securities and Exchange Commission allows fund management companies to impose a charge on fund assets to pay for distribution costs, including advertising and commissions, if certain conditions are met. These imposed costs are called 12b-1 fees. In the following discussion of classes of shares, you'll see how these fees differ in amount depending on the share class. Unlike sales charges, 12b-1 fees are deducted from the fund asset value quarterly each year, either as a percentage of the fund's NAV. .
Customers who buy shares of mutual funds with high 12b-1 fees will usually wind up paying more in sales charges than if they had originally bought shares with a front-end load. Conversely, those investors who are looking for short-term returns will usually benefit from buying one of the non-front-end loaded funds.
No-load funds are mutual funds that are sold at their NAV, without any sales charge added. In other words, the NAV and the ask price are the same. Investors in no-load funds usually buy shares directly from the fund management company.
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