There are three main types of costs you may pay when investing in funds:
- Management charges are fees paid to the fund manager. The manager chooses what investments the fund buys or sells and promotes the fund to attract investors. These charges are included when we talk about fund charges, like in our comparison tables.
- Administration costs include fees to the regulator (the Financial Conduct Authority or FCA), audit fees, and fees for keeping the fund's assets safe. Sometimes the fund manager covers these costs from their management charges, but usually the fund pays them directly. These costs are also included when we mention fund charges, such as in our comparison tables.
- Trading costs are the costs of buying and selling investments. For example, the fund may pay a broker to make trades or pay stamp duty tax. Trading costs are not usually included in fund charges. Sometimes these costs are charged directly to investors so most investors don’t pay for others’ trades.
The first two costs (management charges and administration costs) make up the "total expense ratio" (also called the "ongoing charge"). This number shows the fund charges and is used to estimate future returns.
Trading costs are usually not included in the total expense ratio but can be charged separately. This protects most investors from covering the costs of a few. Funds do this in different ways, such as a "dilution levy" or a "bid/offer spread":
A dilution levy is a direct charge passed to new investments. For example, if investing £10,000 leads to £20 of trading costs, this £20 could be charged as a dilution levy.
A bid/offer spread means new investments pay a slightly higher unit price. For example, if investing £10,000 creates £20 of trading costs, the unit price might be 0.2% higher to cover those costs.