Load-Waived Funds

  

Categories: Mutual Funds, Metrics

Wanna get a mutual fund that normally sells with a load or a commission? Invest a million bucks. Hold it a year or more (usually). And it's yours, no load.

How does this "volume deal" magic happen? Does the broker just donate her commission in that situation?

Um, no. Brokers have boats to buy, mortgages to pay, alimony payment lawsuits to defend. Instead, in the case of a million dollar investment, the people who manage the money essentially fund the broker's commission.

Like...let's say that volume deal commission would be 1.5%. Well, the fund managers then would take 1.5% out of the million bucks they're managing that year (for a fee of, say, 1% a year), and pay that broker quarterly to make up the $15k they've earned in commission. Note that the fund managers collect "only" $10k in management fees that year for managing that money. If the buyer of that million bucks' worth of mutual fund then sells after a year, the money managers usually eat that $5k of loss.

But that event is relatively rare. Most mutual funds are bought to be held a long time, and the odds that the investor holds 10 years or longer are usually way higher than that they sell after a year. (And if they sell before a year, usually they owe some pro rata amount of commission for having jerked everyone around.) But on a 10-year hold, assuming that million bucks doubles in that time period, the fees collectd should vastly dwarf the $15k of commission paid to the kindly, loving broker.

Related or Semi-related Video

Finance: What is the Difference Between ...45 Views

00:00

finance a la shmoop -what is a tax deduction ah taxes love them hate them

00:08

you can't leave them. but you can lower them legally by being you know

00:13

thoughtful about how you spend your earnings. all right how do we do this?

00:16

well let's start with the largest tax deduction in America the home mortgage. [man stands in front of house]

00:21

and you use a dentist who makes a hundred fifty grand a year for putting

00:26

your fingers in wet mouths. well remember, that for individuals versus corporations [man sticks finger into open mouth]

00:31

we pay a graduated or quote progressive unquote tax rate - like almost nothing on

00:38

the first 15 grand we earned than about 10 percent from 15 to 30 grand, and then

00:43

about 20 percent from 30 to 60 grand and so on. that's progressive. so on the last

00:48

20 grand of earnings you make well you might pay say 40 percent in taxes and [chart shown]

00:53

yeah we know the numbers aren't exact we're just illustrating a point here. you

00:56

have a mortgage of $300,000 on a home you bought for $400,000 right so you put

01:01

a hundred grand down and borrowed three hundred .the mortgage costs you 6% per

01:05

year in interest, or eighteen thousand dollars to rent that three hundred

01:09

thousand. before you owned the home the IRS thought of you as a hundred fifty

01:14

grand a year earner, but a hundred percent of the interest on the home is fully [the number 100 on screen]

01:20

tax-deductible .so what about that last 20 grand ie the money you earned from 130K to 150 K? well as far as the IRS is concerned, now that you have a

01:30

home, you get taxed as if you earned just 132 grand,

01:36

hundred fifty K you actually earned .why? because that eighteen thousand dollars

01:40

in interest comes right off the top of your earnings. see? there's the math right

01:45

there. 150 minus 132 in taxable earnings. it's as if you didn't earn that money

01:50

ever [piggy bank shaken. confetti falls out]

01:54

all right well if you'd had no deductions on that last $20,000 of

01:59

earnings you'd have paid 40 percent or $8,000 in taxes. but now on that last

02:04

$20,000 thanks to your mortgage deduction, well you only have taxable

02:09

income of $2,000 and yes you pay 40 percent on that 2,000 or 800 bucks. and

02:15

you mumble though thank you government for largely splitting the cost of my

02:19

mortgage with me. the American Dream is alive and well yeah that's what you said. [ man in suit stands in fancy room]

02:23

okay. and thank you Jay. there are other deductions beyond home mortgages of

02:28

course but well you give the gist here of how they work. from a taxpayers

02:32

perspective deductions like those from your home mortgages are a good thing.

02:37

common personal deductions also include things like prepaid health care costs,

02:42

and the cost of feeding quote dependent unquote children. ie those noisy things [kid jumps on a bed]

02:47

sleeping in your spare bedrooms until they're 18. okay so those are personal

02:51

deductions. things that individual citizens take. but what if you're a

02:55

corporation? well in a way it's kind of easier. think of most corporations as

02:59

having a flat 30% tax from the first dollar they make just to keep things

03:03

simple. participation trophy company Inc made a hundred million dollars last year

03:07

and paid 30 million in taxes. they netted 70 million after tax. the company really

03:13

needs a new trophy smelting machine because with so much demand for [metal melts in a fire]

03:18

participation trophies of late while the old one is running dull with mediocrity.

03:23

the company spends 40 million bucks on the new machine knowing that it will be

03:28

worthless in 10 years either because it wears out or because the country gets

03:31

real. or you know simply remembers to you know have a nice day, yeah participation [smiley face]

03:37

trophy land. well they depreciate 40 million dollars in

03:40

equal parts of 4 million bucks each year over 10 years so that in the next year

03:44

when they again earned a hundred million dollars well they now get to deduct 4

03:49

million bucks in depreciation from their smelting machine against their hundred

03:54

million dollars in earnings. so again as far as the IRS is concerned they didn't

03:58

really earn a hundred million dollars even though they did. they earned quote

04:02

only unquote 96 million. and yes they still pay their 30 percent tax only now [equation on screen]

04:07

instead of paying it on a hundred million bucks it's paid on 96 million of

04:11

earnings or 0.3 times ninety six or twenty eight point eight million in

04:17

taxes. they deducted from their taxes the four million bucks ,expected value

04:22

decline from their smelting machine. right it goes down four million a year

04:26

in value from the 40 they paid. and they received essentially a credit on their

04:30

taxes of 1.2 million dollars. so instead of that years depreciation costing the [equations shown]

04:36

company four million bucks well it really cost them more like 2.8 million

04:41

if you ignore a bunch of other things like the original capital cost of the

04:44

machine and what else they might have done with that money other than the you

04:47

know buy a smelting machine. think think corporate jet yeah those G-6 are [furnace shown]

04:52

surprisingly tasteful.

Up Next

Finance: What are Sales Charge and Sales Load?
1 Views

A sales charge/sales load is a commission paid by a customer when they buy a mutual fund. The more you invest, the smaller the load %.

Finance: What is a Back End Load?
1 Views

What is a Back End Load? A back end load is a sales fee that is paid on a mutual fund after it’s sold (on the back end). Sometimes it’s a set a...

Find other enlightening terms in Shmoop Finance Genius Bar(f)