Whenever you watch an advertisement on mutual funds on the television, you hear an ultra-quick “Mutual funds are subject to market risks…” announcement at the end. But what you don’t hear is that mutual funds come with expenses too. These expenses are commonly known as TER in the mutual fund sector.
What is TER?
Mutual funds are investment vehicles that help investors to increase their wealth by investing in various financial assets such as bonds, equities, gold and money market instruments. There are thousands of different mutual funds in the market, and a fund manager professionally manages each fund. Mutual fund companies charge investors for managing their schemes, and this cost is known as the Total Expense Ratio or TER.
Imagine you have invested Rs. 10,000 in a fund that comes with an expense ratio of 1%. This means you pay a sum of Rs. 100 each year to the fund house to manage your investments. TER limits are regulated by SEBI and fund houses cannot charge beyond the pre-defined expense ratio.
Here is a table that lists out the maximum-allowed TER for equity and debt mutual funds based on the size of the assets managed.
| AUM (in crore) | Equity-oriented schemes | Debt-oriented schemes |
| 0-100 | 2.50% | 2.25% |
| 100-400 | 2.25% | 2.00% |
| 400-700 | 2.00% | 1.75% |
| Above 700 | 1.75% | 1.75% |
Recent updates in TER
In mid-September 2018, SEBI announced a few changes in the TER for mutual funds. These new changes aim to make it easier for people to invest in mutual funds, ensure higher returns and increase transparency in the industry.
Here is a table that lists out the new TER limits:
| AUM (in crore) | Equity-oriented schemes | Debt-oriented schemes |
| 0-500 | 2.25% | 2.00% |
| 500-750 | 2.00% | 1.75% |
| 750-2,000 | 1.75% | 1.50% |
| 2,000-5,000 | 1.60% | 1.35% |
| 5,000-10,000 | 1.50% | 1.25% |
| 10,000-50,000 | Reduction of .05% for every increase of Rs. 5,000 | Reduction of .05% for every increase of Rs. 5,000 |
| Above 50,000 | 1.05% | 0.80% |
In addition, the SEBI has also asked fund houses to disclose their TER on different schemes on a daily basis to create greater transparency.
Impact on your investments
The reduction in TER by SEBI is a welcome move for investors. A high TER can slowly eat into your returns over the long term. For instance, you may not find much difference between a fund house charging 0.5% as TER and another charging 1%.
For instance, imagine you had invested Rs. 1 lakh in the two funds 15 years ago. Assuming a gross rate of return of 16%, your first investment would fetch you a return of Rs. 8.68 lakh while the second would bring you a return of Rs. 8.13 lakh. Both these funds own the same stocks but a difference of 50 basis points in the TER could increase or decrease your overall returns by Rs. 55,000 depending on the fund you choose.
Benefits of investing in direct plans
The SEBI has taken various measures to make mutual fund investing affordable to Indian investors. For example, in 2012, SEBI made it mandatory for mutual fund houses to launch ‘Direct’ options in all mutual fund schemes. Direct plans allow investors to deal directly with the fund house without the services of a distributor.
When it comes to mutual funds, most costs borne by Indian investors are packaged into TER. And two of the most significant components of the TER include the fund manager’s fee and the distributor’s commission.
Since the services of a distributor are not utilised under direct plans, no commissions are paid to them under this route. This reduces the expense ratio of direct plans, making it more affordable for investors.
Conclusion
Cost is not the only factor to consider when you invest in a mutual fund scheme. But it is indeed something you should not ignore. You need to look into the objective of the fund, its past performance as well as the fund manager’s expertise and history. But when you have to choose between two similar funds, TER becomes a critical factor.