What a load of … fees!

An Introduction to Investment Planning – Part 5.2

Within my larger series on investment planning, this is the second post on mutual funds. Mutual funds are popular investment vehicles for investors because they give you instant diversification in a single purchase and they can be bought in small increments. They have also been popular because they have been a source of steady income for mutual fund salespeople over the decades. One of the fees that has historically been charged is a “load.” Read on to find out more.


Get a load of this!

Purchasing a mutual fund may come with a sales charge or “load.” There are various sales charges out there but the three that follow are the most common.


Front-end Load

Here you pay a commission at the time of the initial mutual fund purchase. This is a one-time charge. These charges may be negotiable or even waived by the mutual fund salesperson you are dealing with, but they could also be as much as 5 percent or more of the cost of the mutual fund. As an example, if you invest $10,000 in a mutual fund with a 5 percent front-end load, you will pay an additional $526.32 to the salesperson. You may wonder how that is calculated. You should think of the $10,000 purchase as the amount after the five percent has been deducted. So, $10,000 is 95 percent of the total you pay.


Back-end Load (Also Known as a Deferred Sales Charge)

These have been the most controversial in Canada as the initial perception is that you are not paying a sales charge at all. Typically, in the case of a mutual fund that charges a back-end load or DSC (Deferred Sales Charge), you buy the mutual fund with no load charged to you at the time of purchase. However, the mutual fund salesperson receives a payment from the mutual fund company for making the sale. Here is an illustration of what happens, though, if you choose to sell the mutual fund within a certain period of buying it.


If you sell:

You pay:
Within 1st year of purchase 6%
During 2nd year of purchase 5%
During 3rd year of purchase 4%
During 4th year of purchase 3%
During 5th year of purchase 2%
During 6th year of purchase 1%
After 6th year of purchase 0



The argument made by advocates for the DSC approach to commissions is that it provides the mutual fund salesperson with an opportunity to earn an income up front for their work of analyzing a client’s needs and selecting a suitable mutual fund in response. Without this financial remuneration, small-scale would-be investors would not be able to get the investment advice they need because there is inadequate compensation for the work required of the fund salesperson.


DSC advocates also argue that freedom of choice is beneficial for investors. Eliminating the DSC option, so the argument goes, will eliminate the opportunity for some people to invest.


The argument against the back-end load is the lack of transparency. Investors often don’t realize the bargain they have struck with their salesperson. Some may even think that they are not being charged. If your circumstances change and you need the money, you may be surprised by a nasty fee. What happens if you don’t need the money, but your life has changed such that you need to invest more conservatively, or more aggressively, than currently? You can switch to another fund within the same family. However, if you cash out early, you are going to pay a fee back to the mutual fund company to make up for the fee that the salesperson received from the company when the fund was sold to you.


The good news here is that the back-end load or deferred sales charge is declining in popularity. Indeed, the regulatory authorities were about to recommend a wholesale ban on DSC funds until the Ontario government stepped in, declining to support the proposal of their regulator.*


No Load

In this case, there is neither a front-end or back-end load or sales charge. However, the fund company may charge you a penalty fee if you sell out of the fund within 90 days, for example.


In my next post, you will find a brief discussion about trailing commissions and the paths by which you can buy a mutual fund.


*I am a founding associate member of the Financial Planning Association of Canada. Among our policy objectives is a regulatory ban on all forms of embedded compensation, which includes Deferred Sales Charges on mutual funds.


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Disclaimer: This blog post is intended for general information and discussion purposes only. It should not be relied upon for investment, insurance, accounting or legal decisions.