Mutual Fund Share Classes

In the beginning, selling mutual funds was relatively straightforward. Fund shares were sold by independent brokers who received a fee – or sales charge – for their services. Since the investment world was unknown territory for many if not most people, brokers earned their fees by helping individuals select funds that were best suited to their goals, their investment time frame and their sensitivity to risk. These are still good reasons for seeking the advice of a professional advisor when selecting a mutual fund.

However, as communications technology advanced and individuals’ desire to steer their own financial ship grew, some people preferred to avoid sales charges and buy mutual fund shares directly from the company that managed the fund. “No-load” funds grew in popularity. Faced with the prospect of fewer customers, “load” mutual fund groups developed different ways of paying brokers for their services, and an increasingly complex system of share classes was born.

Class A Shares

Class A shares are the most widely owned class. The fund pays brokers an up-front fee, or sales load, when investors buy shares. Fees today range between 1% and 5% of the net asset value (or NAV) of the shares. All mutual funds calculate the NAV of shares at the close of business every day by dividing the total value of the investments in the portfolio by the number of shares outstanding at that time.

Class B Shares

When investors buy class B shares, the funds pay the brokers’ fees at a later time. This method is referred to as a “back end,” or “contingent deferred” sales charge (CDSC). In this instance, 100% of the new shareholder’s money goes to work from the first day. The fund typically pays the broker on a sliding scale over a period of five to eight years, taking the money out of the funds’ expenses as part of a “12b-1” fee. This gives investors an incentive to stay with the fund beyond the five-to-eight year period when the cost of owning their shares drops.

Class C Shares

Class C shares are similar to class B shares, but an open-ended 12b-1 fee replaces the up-front and back-end sales charge. Fees are subtracted each year for as long as the investor owns his shares – even if he holds them well past the eight-year cut-off point for Class B shares. Often without realizing it, investors could be compensating the sales person who sold them fund shares 10, 15 or 20 years down the line.

Class I Shares

From the standpoint of sales charges, I shares offer the best deal because there is no sales charge ever and other fees may also be lower. But the “I” stands for “institutional” because the minimum investment can be in the hundreds of thousands of dollars. Only corporations, foundations or extremely wealthy people can afford to buy them.

Class R, F and Other Shares

“R” is for “retirement.” R shares are similar to I shares, in that there is no sales charge, but they are sold exclusively through corporate retirement plans. Payments to financial advisors and record-keepers are added to the funds’ 12b-1 expenses.

At this end of the alphabet, share classes mean different things for different fund families, and not all families offer all classes. Some funds offer “F” shares, which are similar to A shares but with a fee of 1% to 1.5% (typically) based on assets. F shares are usually sold as part of college savings plans. You may see “Y” class shares in some fund reports. These generally adjust the historical performance data for shareholders who invested in the fund when it was sold with a different fee structure.

Costs relating to every share class are discussed in each fund’s prospectus.

Fund Industry is in Flux

Some fund groups are dropping Class B shares because they are finding them no longer profitable. What’s more, in July of 2010, the Securities and Exchange Commission proposed to limit 12b-1 fees so that C class shareholders, for example, could not be charged a higher sales fee than A class shareholders. In addition to compensating brokers, 12b-1 fees are used to pay for a range of services, including advertising and mailing out literature. Originally touted by fund groups as a way to lower fund expenses by spreading them out over a larger fund base, to date the growth of 12b-1 fees has benefited the fund companies more than shareholders.

In addition to buying no-load funds, some investors work with online discount brokerage firms that charge investors very low fees without any personalized service. If you would feel more comfortable using a full-service broker to select a mutual fund or a fund group, you can find information on every fund’s performance, expense ratios and sales loads in such websites as – a widely recommended read for any potential investor. And don’t forget to read the prospectus!