The expense ratio in the case of mutual funds sector refers to the measure of the amount costs by an investment company for operating a mutual fund. Experts may calculate mutual funds expense ratio based on an annual calculation by giving the complete funds operating expenses by an average of the rupee value of its AUM i.e. Assets Under Management. Few experts also call it MER i.e. Management Expense Ratio.
Function of Expense Ratio
The main role of this ratio is to exclude operating expenses present in the assets of a fund and at the same time, lower the return to investors in the fund. Expense ratio expresses the actual percentage of various assets, which undergo deduction in each fiscal year for available fund expenses, including management fees, 12b-1 fees, administration fees, operating costs and many other costs related to assets incurred from the available funding.
Calculation of Expense Ratio
Experts have calculated mutual funds expense ratio based on following two important categories, as mentioned here.
Annual Gross Expense Ratio
Annual gross expense ratio associated with mutual funds refers to the specific percentage of fund assets, which individuals pay for management fees, operating expenses, and interest expenses. Gross expense ratio includes following important types of fees-
- Dividends and interests on borrowed securities
- Custodial distribution,
- Board of directors, organizational,
- professional shareholder reporting,
- transfer agency costs
- Sub-advisor. In this case, expense ratio never reflects brokerage costs of funds or sales charges of investors.Moreover, this type of ratio excludes fee waivers for a particular period. Experts also call this ratio as audited gross expense ratio and often they opt to calculate it with the help of the audited annual report obtained from the fund. Annual report on expense ratios highlights about the actual fees charged for a specific fiscal year, while prospectus report reveals only material changes take place in the structure of expense associated with the present period.
Annual Net Expense Ratio
Annual Net Expense Ratio indicates the actual fund assets’ percentage paid for management fees and operating expenses. This ratio includes the following important fees,i.e. administrator, accounting, auditor, advisor, the board of directors, distribution in the form of 12b-1, custodial, organizational, legal, professional, shareholder reporting, on borrowed registration, transfer agency and sub-advisor.
The Main difference of net expense ratio with the gross one is that the net expense ratio includes fee waivers associated with the period and excludes dividends and borrowed securities. Expense ratio in this case does not highlight brokerage costsassociated with the fund and any kind of charge of investor sales. Experts call this as an Audited Expense Ratio and it pulls the annual ratio of net expense from the audited annual report associated with mutual funds. However, similar to the case of the gross expense ratio, in the case of an annual report about net expense ratio, it highlights actual fees charged for a specified fiscal year and prospectus type of expense only provides details about material variations cause of the expense structure of the current period.