How will cap on TER impact investors
Sebi has floated a paper on total expense ratio. It includes several proposals that would benefit retail investors. It is believed that if these proposals are implemented, investment in mutual funds would become cheaper and there would be restrictions on their mis-selling.
In May of last year, the market regulator SEBI issued a consultation paper on total expense ratio. It includes several important proposals that would benefit retail investors. It is believed that if these proposals are implemented, investment in mutual funds would become cheaper and there would be restrictions on their mis-selling.
What proposals has SEBI put forward and what impact will these proposed changes have? To understand this, first you need to understand what TER is and how it affects mutual fund investors.
What is TER?
TER stands for Total Expense Ratio. It is the fee charged to mutual fund investors, which is deducted from the net asset value. It represents the total cost of investing in a fund. Investing in a fund with a lower TER can make a significant difference in the long term.
TER includes various charges such as fund management fees, registration fees, administrative expenses, marketing fees, and publicity fees. It represents the total cost incurred by combining all these charges.
It is important to keep an eye on TER because it directly impacts the NAV of investors.
For example, if a mutual fund has a TER of 2% and it generates a profit of 17%, your total return on investment would be only 15%.
Low TER basically means that your profit margin can be higher. However, it cannot be said that you will receive lower returns just because there are higher expense ratios because it also depends on the assets under management of the mutual fund.
Cost benefits
So if you are an investor in mutual funds, you should look at the TER of any fund to ensure that the cost of that mutual fund scheme does not outweigh its other benefits.
Now let’s understand the current rules for TER. According to SEBI regulations, for actively managed equity-oriented schemes, the TER is 2.25% for daily net assets under management (AUM) up to Rs. 500 crore. After that, it is 2% for the next Rs. 250 crore of assets, then 1.75% for the next Rs. 1,250 crores of assets, and finally 1.6% for the next Rs. 3,000 crores of assets.
Similarly in debt schemes, for first Rs 500 crore of assets under management TER is 2%, this is lower than equity funds. Besides this mutual funds charge various other fees.
For example, in cash market transactions, there can be brokerage and transaction costs up to 0.12% of the trade value. Additionally, there is an extra charge of 0.30% of daily net assets for investments from towns and smaller cities outside the top 30 cities. In schemes with provisions for exit loads, there can be an additional expense of up to 0.05% of daily net assets. There is also GST on investment and advisory charges for mutual fund schemes. Due to the absence of any upper limit on additional fees, the expenses for investors in regular plans often exceed the determined Total Expense Ratio
Now let’s understand the proposals put forth by SEBI in the consultation paper. SEBI wants to make changes to the existing system to bring more transparency in fee-related matters for investors. SEBI has stated that charges should be based on the size of the AMC (Asset Management Company) and not the scheme itself.
Asset-wise TER
Not only that, according to the proposal, instead of scheme-wise TER (Total Expense Ratio), there should be asset class-wise TER. This means there should be one TER for all equity funds and a specific TER for debt funds and other assets as well. Sebi was supposed to take a decision on TER at its meeting on June 29 but did not do so. It may go for another round of public consultation.
According to the proposal, the AUM (Assets Under Management) for hybrid and solution-oriented schemes will be divided into equity and non-equity portions, and the applicable TER (Total Expense Ratio) will be imposed for each AUM portion. SEBI has stated that all additional charges such as brokerage and GST will be eliminated and brought under a single TER, ensuring complete transparency for investors in terms of fees.
SEBI has also proposed that the charges should be the same for both regular and direct plans, with the only difference being in the distribution commission.