Mutual Fund Pricing and Fees
Understanding mutual fund fees is critical for the Series 7 exam. Different share classes have different fee structures, and knowing when to recommend each is essential.
Sales Charges (Loads)
Front-End Load (Class A Shares)
- Sales charge paid when you buy shares
- Calculated as percentage of Public Offering Price (POP)
- Maximum allowed: 8.5% (with reinvestment rights)
- Reduces initial investment amount
POP Formula:
POP = NAV ÷ (100% - Sales Charge %)
Example:
- NAV = $10.00
- Sales Charge = 5%
- POP = $10.00 ÷ 0.95 = $10.53
Back-End Load / CDSC (Class B & C Shares)
- Contingent Deferred Sales Charge (CDSC)
- Charged when you sell shares
- Typically decreases over time (declining schedule)
- Class B often converts to Class A after holding period
| Year Held | Typical CDSC |
|---|---|
| 1 | 5% |
| 2 | 4% |
| 3 | 3% |
| 4 | 2% |
| 5 | 1% |
| 6+ | 0% |
Share Classes Comparison
| Feature | Class A | Class B | Class C |
|---|---|---|---|
| Front-End Load | Yes (with breakpoints) | No | No (or minimal) |
| CDSC | No | Yes (declining) | Yes (level, ~1 year) |
| 12b-1 Fees | Lower (≤0.25%) | Higher (~1%) | Higher (~1%) |
| Best For | Large investments, long-term | No longer commonly offered | Short-term |
| Conversion | N/A | Converts to A | Does not convert |
12b-1 Fees
Named after SEC Rule 12b-1, these fees cover distribution and marketing costs:
- Maximum: 1% of fund assets annually
- Asset-based fees (charged as % of NAV)
- Reduces fund returns over time
- Higher 12b-1 = lower returns to shareholders
12b-1 Fee Limits
| Component | Maximum |
|---|---|
| Distribution fees | 0.75% |
| Service fees | 0.25% |
| Total 12b-1 | 1.00% |
Important: If a fund charges the maximum 1% 12b-1 fee, the maximum sales load is reduced to 7.25% (not 8.5%).
Breakpoints
Breakpoints allow investors to receive reduced sales charges for larger purchases:
| Investment Amount | Sales Charge |
|---|---|
| Under $25,000 | 5.00% |
| $25,000 - $49,999 | 4.25% |
| $50,000 - $99,999 | 3.50% |
| $100,000 - $249,999 | 2.50% |
| $250,000 - $499,999 | 2.00% |
| $500,000+ | 0.00% |
Letter of Intent (LOI)
An investor can sign a Letter of Intent pledging to invest enough over 13 months to reach a breakpoint:
- Receives lower sales charge immediately
- Must complete investment within 13 months
- Shares held in escrow until commitment met
- If not completed, sales charge difference collected
Rights of Accumulation
Rights of accumulation allow investors to combine:
- Current account value (at current NAV)
- New purchase amount
- To qualify for breakpoint on new purchase
Example: Investor has $45,000 invested and wants to add $10,000. Combined value ($55,000) qualifies for $50,000 breakpoint on the new purchase.
Breakpoint Selling (Prohibited)
Breakpoint selling is a prohibited practice where a representative:
- Recommends purchases just below a breakpoint
- Fails to inform customer about available breakpoints
- Results in customer paying higher sales charge
This is a FINRA violation and grounds for disciplinary action.
Warning: Never Engage in Breakpoint Selling Registered representatives must inform customers when their purchase is close to a breakpoint. Failing to do so is a serious violation that can result in fines, suspension, or termination.
5.4 Closed-End Funds and ETFs
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