The distributions a fund pays its investors come from realized capital gains, dividends, interest or other income stemming from the securities and investing activities of the fund. The distribution policy tells you how these payments are made. Some funds distribute returns directly to unitholders, while others reinvest the distributions back into the fund, buying more units for fundholders.
Whether these distributions are paid in cash or reinvested, unitholders have to pay taxes on them. If you are concerned about taxes, there are tax-managed funds that limit income and capital gain distributions. These tax-managed funds allow you to ensure that you maximize the use of your tax-sheltered options, such as your 401(k) or IRA.
Fees and Expenses
This section is extremely important to consider, because fees and expenses will eat into your total investment return from the fund. Here you will find information on any back or front-end loads, 12B-1 fees and the management expense ratio. Because these compromise your return regardless of the fund's performance, it is rarely optimal to invest in funds with loads.
Here you can discover how long your fund manager has been managing your fund. Watch out for the fund that has been in operation significantly longer than the fund manager has been managing it. The performance of such a fund can be credited not to the present manager, but to the previous ones. If the current manager has been managing the fund for only a short period of time, look into his or her past performance with other funds with similar investment goals and strategies. You can then get a better gauge of his or her talent and investment style.
After reading the sections of the prospectus outlined above, you will have a good idea of how the fund functions and what risks it may pose. Most importantly, you'll be able to determine whether it is right for you. If you need more information beyond what the prospectus provides, you can consult the fund's annual report, which is available directly from the fund company or through a financial professional.
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