Jargon Buster. Mutual fund loads

When you invest in mutual funds, besides the expense ratio, there is one more potential cost you must take note of — loads.

What is a load? A load is essentially a penalty or charge to discourage mutual fund investors from frequent churn and encourages them to stay on with the fund for a reasonable period of time. Redeem before the prescribed period, and you may have to take a cut on the redemption proceeds. This, in industry parlance, is known as exit load.

A few years back, there was also an entry load that was sometimes as high as 7 per cent of the amount invested. So, if you put in ₹100 in the fund, just ₹93 went into the actual purchase of units, with ₹7 retained by the fund house. Some of this also went to distributors. In August 2009, SEBI banned mutual funds from levying entry loads. This was to reduce the costs for investors, bring in transparency in payments to distributors, and prevent mis-selling. The investor benefited as he got more bang for his buck, prevented unnecessary portfolio churn and encouraged long-term investments.

Now, what remains is the exit load.

This is levied if you prematurely sell your fund or switch between schemes. Shorter holding periods generally entail higher exit loads but if the units are held long enough, the load does not apply. For instance, Quantum Mutual Fund starts with a 4 per cent exit load for its Long Term Equity Fund when investors redeem or switch out within 180 days of allotment, which progressively drops by a per cent for the holding periods — 180 to 364, 365 to 544, 545 to 729 days, respectively. Transactions become load free when the holding period exceeds 730 days.

Equity mutual funds generally have higher loads than their debt counterparts. DSP BlackRock Mutual Fund, for instance, charges an exit load of 1 per cent for its equity schemes, 0.25 per cent for its debt-based Short Term Fund and none for its treasury and liquid schemes, if investments are redeemed within a year.

Fund houses have been mandated to mention their exit loads in the offer document. They also mention the exit loads in their monthly fact sheets. Very few fund houses — such as Motilal Oswal AMC — do not levy any exit load.

Can you avoid it? Investors are not immune to loads even when they invest directly, bypassing distributors. Exit loads apply for early redemptions. Staying invested and patiently waiting out the minimum time prescribed is the only way out. Each transaction must pass the threshold time limit to avoid loads.

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