All this glory that is part and parcel to investing in mutual funds does not come for free. While mutual funds certainly decrease the cost of investing to the individual, there are all sorts of fees and expenses attached to becoming a shareholder in a fund. These fees can vary significantly, so it’s important that you understand how to find them and understand them.

Generally listed as the “expense ratio” are several costs that shareholders will pay for services and management of the fund. While the Securities and Exchange Commission is closely monitoring funds to make sure that shareholders are aware of all the expenses related to their fund, it’s important that you as an investor understand the basics behind these fees and have a sense of what to look for on your own. After all, there are thousands of funds, and some of them have devised new and inventive ways to “bill you,” so to speak, while the vast majority are fairly straightforward about where the expenses are going. International funds often have higher expense ratios than domestic funds because they are dealing with companies overseas.

A mutual fund operates like a smaller business within the structure of the larger fund family. It is an entity unto itself in that the fund does not interact with other funds under the same umbrella company. They share printed materials and costs, such as advertising the financial group, but from the perspective of the fund family, each fund is handled separately. In other words, the expense ratio you’re paying for “Fund A” will not spill over to pay the manager of “Fund B.” Also, the success of one fund does not hinge upon the success of another. Often you will look down the listings of funds in one family and see some winners and losers along the way. Unlike the portfolio within the fund, where the manager can try to dispense of the losers or at lease balance equities that are not doing well with ones that are, the fund family cannot integrate the portfolios of different funds.

Fees generally include the following:

Service fees. These fees are used for financial compensation of the planners, analysts, and brokers who assist customers with fund-related questions and provide information and advice regarding the fund. Accounting and legal services may also be included.

Administrative fees. These are the fees associated with office staff, office space, and other fundamentals to running a business, including equipment. Sometimes these funds are absorbed under management fees. Office expenses incurred by a fund also include online support and information, check processing, auditing, record keeping, shareholders’ reports, and printed matter.

Management fees. This is the percentage that goes to the fund manager. This can be a flat percentage or one set up to coincide with the growth of the fund based on returns. The bigger the fund gets, in terms of assets, the lower the percentage will generally be.

12b-1 fee. This is a fee used primarily for marketing or advertising the fund. Since there are so many mutual funds on the market, it is becoming increasingly important for fund families to advertise. Your fee is not just a contribution to the fund’s advertising budget but will hopefully help the fund to grow—and as the fund grows, there will be more money available. Therefore, the fund will have greater leverage to buy more holdings, which can—with a good fund manager—be to your advantage. In fact, some funds report that because of advertising, their overall expense ratios have gone down as the funds have grown. So for those who do not like the 12b-1 fee, remember that it can work in your favor.

I'll have more on fees in my next blog.