What is Total Expense Ratio (TER) of a mutual fund and how it affects your SIP returns?

In a bid to bring transparency to the costs charged to customers by Mutual Fund Asset Management Companies (AMCs), the Securities and Exchange Board of India (SEBI) recently proposed a uniform Total Expense Ratio (TER) across mutual fund schemes. The regulator has also proposed a maximum TER ceiling for AMCs basis their AUM. (Details here).

It is estimated that if the SEBI’s proposed ceiling on maximum TER comes into effect then as many as 171 of 378 equity mutual fund schemes may have to adjust their expense ratios. Currently, as many as four of the top 10 AMCs have an average TER that exceeds SEBI’s proposed ceiling. This article explains what is TER and how it impacts mutual fund returns.

What is Total Expense Ratio?

When you don’t know how to drive a car, you will have to hire a driver. But before doing that, you will also want to know how much you will have to pay for the driver’s service. Just like that, when you are investing in a mutual fund scheme, the Asset Management Company (AMC) charges a maintenance fee to keep the fund running. This fee covers things like fund officer fees, marketing costs, and other standard administrative expenditures. This fee is also known as the Total Expense Ratio (TER).

To put it simply, TER is used as a measure of the total costs associated with managing and operating a mutual fund. It is a percentage of a scheme’s corpus that an AMC charges towards various expenses, including administrative and management.

Also Read: How many equity mutual funds can get cheaper after SEBI’s Total Expense Ratio (TER) proposal

Why should investors factor in TER before investing?

Expense ratios can make a difference to your returns from an investment in a mutual fund scheme. The higher the TER, the lower will be the returns. Let’s understand this with an example: Suppose you are investing Rs 10 lakh in a mutual fund for 10 years, let’s see how TER will impact your returns in direct vs regular plans of the scheme.

As seen above, TER can significantly impact the overall returns. Therefore, financial experts strongly recommend investing in funds with a low expense ratio.

However, it’s important to note that the expense ratio alone should not be the sole determining factor when selecting a fund. There are several other parameters to consider in order to identify the few funds that may offer higher expense ratios but also provide excellent returns. With suggestions from a professional financial advisor, investors can explore ways to reduce this expense.

Also Read:  Top 10 Flexi Cap schemes with 18% to 24% SIP returns in one year (June 2023)

End note

For many retail investors in India, mutual funds are a highly attractive investment option. However, the expense ratio, as seen above, may have a significant impact on your final investment, so keep an eye on it when choosing a mutual fund. However, don’t choose a fund on the basis of expense ratio alone as certain funds can produce positive returns even with high expense ratios.

(With inputs from Nimmagadda Deeraj, an intern with FE PF Desk)

Disclaimer: Mutual fund investments are subject to market risks. Please consult your financial advisor before investing.