How The Expense Ratio is Calculated By Mutual Fund Schemes?

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The purpose of writing this article is to highlight how the expense ratio is calculated and deducted by mutual fund schemes from our investments. Many people think that the expense ratio of a mutual fund is a one-time expense. But on the contrary, it gets deducted from our investment on a daily basis. The daily deduction will continue till we sell our mutual fund units. Surprised, right? Please read further, you’ll get more insights. To get quick answers, read the FAQs.

How The Expense Ratio is Charged

Suppose your mutual fund investment portfolio is worth Rs.25 lakhs as of today. The declared expense ratio of the portfolio is 1.78% (say). It means a sum of Rs.121.9 is deducted from your portfolio each day. On an annual basis, an average sum of Rs.44,500 (=Rs.121.9 x 365 days) is deducted from your portfolio. The sum of Rs.44.5K is equivalent to 1.78% of your portfolio size (1.78% = 44,500/25,00,000).

The actual calculation of how the expense ratio is charged on investments is more complicated than what is shown above. The deduction amount will change every day with the daily fluctuations of the scheme’s NAV. Allow me to show you how.

Suppose an investor holds 38,000 number units of Axis Mid Cap mutual fund. The expense ratio of this scheme is 1.78% per annum. The approximate value of this investment is Rs.25 lakhs.

Expense Ratio of Mutual Fund - daily calculations

The above infographics show the daily NAV of Axis Midcap Fund from 15-Jan’23 to 20-Jan’23. Check how the calculated expense ratio changes with the change in the fund’s NAV.

On 20-Jan-2023, the NAV of the scheme was Rs.65.04 per unit. As the investor holds 38,000 number units of the scheme, the value of the investment will be Rs.24,71,520 (= 65.05 x 38,000).

The calculated expense ratio on this date will be Rs.120.53 (=1.78% / 365). It means that, on this day, a value of Rs.120.53 was deducted from the investor’s portfolio. Similarly, the expense ratios were deducted on the other dates as well. On the six dates shown above, the total expense ratio deducted from the investor’s portfolio was Rs.728.68.

As per SEBI’s guidelines, the said mutual fund scheme can deduct the expense ratio daily from the investor’s portfolio. But there is an upper limit. The total amount should not be greater than 1.78% of the average NAV (or value of investment). Suppose, in the year 2023, the average value of the investment was Rs.25 lakhs. Hence, the sum of all daily deductions should be less than Rs.44,500 (=1.78% * Rs.25,00,000).

Please note that the expense ratio will be deducted (charged) daily from the investment till the investor stays invested. The deduction will continue to occur irrespective of whether the NAV is rising or falling. Even if our example investor sees a negative NAV growth in a financial year, he will still be charged Rs.44,500 as his fund’s expense ratio is 1.78% and his portfolio size if Rs.25 lakhs.

Compare: Expense Ratio of Mutual Fund Vs Stocks

Yes, even stock investing has a cost. There one has to pay charges under the head of the brokerage, transaction costs, GST, Security transaction tax, Stamp duty, and Demat charges.

Cost of Investing in Stocks - Comparison with mutual funds

Back: Mutual Fund: Introduction

Next: How to identify a good mutual fund

MANI

MANI

Hi. I’m Mani, I’m an Engineering graduate who in pursuit of financial independence, has converted into a full time blogger. After working in the corporate world for almost 16+ years, I bid it adieu....read more

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