A trail-fee model benefits distributors if their clients stay invested in schemes for a longer period
In a major overhaul of the fee structure that mutual funds charge from investors, markets regulator Sebi on Tuesday decided to cap the total expenses for investment in such funds to 2.25 per cent.
Mutual fund industry must adopt the full-trail model of commission in all schemes, Sebi Chairman Ajay Tyagi told reporters after the board meeting. A trail-fee model benefits distributors if their clients stay invested in schemes for a longer period.
At present, mutual funds pay distributors upfront commission as high as 2 percent against the one percent recommended by industry body Association of Mutual Funds in India (Amfi).
Such decisions are expected to reduce the cost of investing in mutual funds, bring transparency and prevent any mis-selling.
The board of Sebi has cleared the proposal to cap the maximum total expense ratio (TER) -- the fee that mutual funds collect from investors every year to manage their money -- for closed-ended equity schemes to 1.25 percent and other than equity schemes to 1 percent.
The maximum TER for open-ended equity schemes will be 2.25 percent.
TER is a percentage of a scheme's corpus that a mutual fund house charges towards expenses, including administrative and management.
Noting that the slab-wise limits of TER was introduced 1996 and since then it has not been changed, Tyagi said that over a period of time, there have been varying practices in the industry with respect to charging of payments and commissions.
With regard to open-ended equity schemes, the highest expense ratio allowed to be charged for the first Rs 500 crore of assets will be 2.25 percent. As AUM increase, the expense ratio will have to come down.
For the next Rs 500-750 crore, it will be 2 per cent. Between Rs 750 crore and Rs 2,000 crore, the fee will be 1.75 percent. For Rs 2,000-5,000 crore, it will be 1.6 percent and large equity mutual funds with assets above Rs 50,000 crore will be able to charge just 1.05 percent.
Tyagi said that the Assets Under Management (AUM) of mutual fund industry in India has grown manifold over the years, and as on August 31, 2018, the asset base of the industry has crossed Rs 25 lakh crore.
"While the AUM has grown multiple times, the benefit of economies of scale has not been fully shared with the investors," he added.
Accordingly, Sebi undertook an internal study by its Mutual Fund Advisory Committee (MFAC) to review the TER.
The panel made several recommendations on transparency in expenses, TER for various types of mutual fund schemes, investments through SIPs, limiting the additional incentives for B-30 cities based on inflows from retail investors, performance disclosure of mutual fund schemes, among others.
Taking note of the benefits of the proposal with respect to sharing of economies of scale, lowering the cost for mutual fund investors, bringing in transparency in appropriation of expenses, and reducing mis-selling and churning, Sebi board has approved proposals related to TER, Tyagi said.
With regard to additional expense of 30 bps for penetration in B-30 cities, Sebi said, "Such additional expense permitted for penetration in B-30 cities, shall be based on inflows from retail investors".
The definition of 'retail investors' will be determined in consultation with the industry.
"Pending such clarification, the additional incentive shall be permitted for inflows from individual investors only and not on inflows from corporates and institutions. Further, the B-30 incentive shall be paid as trail only," it added.
The regulator said that adequate disclosure of all schemes' returns vis-a-vis its benchmark (total returns) will be made available on the website of Amfi.
Earlier in June, the Securities and Exchange Board of India (Sebi) had drastically slashed the 'additional expense' charged by mutual funds to just 5 basis points from 20 basis points.One basis point is one-hundredth of a percentage point.