How Are ETF Fees Deducted? (2024)

Investment management fees for exchange-traded funds (ETFs) and mutual funds are deducted by the ETF or fund company and adjustments are made to the net asset value (NAV) of the fund daily. Investors don't see these fees on their statements because the fund company handles them in-house.

Management fees are just a component of the total management expense ratio (MER), which is what should concern investors.

Key Takeaways

  • Management fees include expenses ranging from manager salaries to custodial services and marketing costs.
  • These fees reduce the value of an ETF investment.
  • They're a subset of the total management expense ratio (MER).
  • MERs are generally lower for passive funds than for active ones.
  • Higher fees can have a large impact on overall investment returns because fees compound over time.

ETF Fees

An ETF company incurs expenses ranging from manager salaries to custodial services and marketing costs as part of its normal operations. They're subtracted from the NAV.

Assume an ETF has a stated annual expense ratio of 0.75%. The expected expense to be paid over the year is $375 on an investment of $50,000. The investor would slowly see their $50,000 move to a value of $49,625 over the year if the ETF returned precisely 0% for the year.

The net return the investor receives from the ETF is based on the total return the fund earned minus the stated expense ratio. The NAV would increase by 14.25% if the ETF returns 15%. This is the total return minus the expense ratio.

The Impact of Fund Expenses

Fees are important because they can have a huge impact on your ultimate returns. A $100 investment that grows by 7% a year would be worth $197 in 10 years without fees. Subtract a 1% annual fee and the result is $179. Fund expenses have eaten up approximately 10% of your potential portfolio. Fees compound over time just as portfolio assets do so the longer the investing period, the bigger the loss.

Ways to Minimize Expenses

Some funds are more expensive than others. A critical distinction is passive versus active management.

Passive managers simply mimic the holdings of a stock index, often the S&P 500, sometimes with minor deviations. These "index fund" or "index ETF" managers periodically rebalance fund assets to match the benchmark index. This incurs trading costs but they're usually minimal.

As the name suggests, active managers take a greater hand in choosing fund assets. This requires expensive research departments that passive funds don't have and usually a higher level of trading that elevates transaction costs. All this is reflected in the MER.

The asset-weighted average expense ratio dropped from 0.61% in 2021 to 0.59% in 2022, the last full year for which statistics are available. Expense ratios for passive funds declined from 0.13% in 2021 to 0.12% in 2022.

Studies of ETF Fees

Morningstar estimates investors saved $9.8 billion in fund expenses in 2022, the last full year for which statistics are available. Investors are benefitting from less expensive fund options as competition between fund companies increases.

Companies are moving toward fee-based compensation models and away from traditional transaction-based models, according to Morningstar. Customer rejection of costly funds is evident in net inflows and outflows. The cheapest 20% of funds saw inflows of $394 billion in 2022. The remaining 80% saw outflows of $734 billion.

The popularity of low-cost robo-advisors is another factor driving down the cost of wealth management services and putting pressure on fund companies to keep expense ratios low. Many investors are responding favorably to the rapid digitalization in investment services and the ability to build high-quality portfolios for a minimal cost using easily accessible online platforms.

The worldwide robo-advisory market is expected to be valued at $129.5 billion by 2032, growing at a compound annual growth rate (CAGR) of 32.5% between 2023 and 2032.

Which Funds Have the Lowest Fees?

Passively managed funds like index ETFs tend to have lower fees than actively managed mutual funds. Broad-based funds tend to have lower expenses than narrowly-based funds because their management costs are distributed among a larger investor base. Vanguard claimed the lowest expense ratio among all fund managers in 2022 with average asset-weighted expenses of 0.08%.

How Much Do Brokers Charge for ETFs?

Brokerage houses may charge a commission for ETF trades just as they charge for any other market-traded security. These fees are typically around $20 per trade or less but they can add up over time if the investor trades ETFs often.

What's a Good Fee for ETFs?

The average asset-weighted expense ratio for passively managed funds was around 0.37% in 2022, according to research by Morningstar. Investors should expect to pay around $3.70 for management costs for every $1,000 of investment value.

The Bottom Line

ETF fees pay for the expenses of managing an exchange-traded fund. They include custodial costs, management salaries, and the costs of buying and selling securities. These are typically lower than the expenses for actively managed funds but they can be significant if you trade often or if the fund does poorly. These costs are automatically deducted from the fund's assets and they're reported in the fund's annual statements.

How Are ETF Fees Deducted? (2024)

FAQs

How Are ETF Fees Deducted? ›

The Average ETF Expense Ratio Is Lower Than Mutual Funds

The average expense ratio for index ETFs is typically lower than that of index mutual funds, historically 0.57% for ETFs versus 0.84% for mutual funds. Importantly, the higher costs of mutual funds can add up and impact portfolio returns over the long run.

What is fee expense ratio for ETFs? ›

The Average ETF Expense Ratio Is Lower Than Mutual Funds

The average expense ratio for index ETFs is typically lower than that of index mutual funds, historically 0.57% for ETFs versus 0.84% for mutual funds. Importantly, the higher costs of mutual funds can add up and impact portfolio returns over the long run.

How much should ETF fees be? ›

How to find the best ETF expense ratio. High fees can turn any investment into a poor one. A good rule of thumb is to not invest in any fund with an expense ratio higher than 1% since many ETFs have expense ratios that are much lower.

How are ETF fees paid on Reddit? ›

ETF management fees are dragged out of the assets of the fund. It's not charged to you directly. It just means the fund seems to slightly underperform compared to its underlying index. If you want to ballpark this figure, it's one-twelfth the published MER, times your holdings at the end of the month, monthly.

How do taxes work on ETFs? ›

Dividends and interest payments from ETFs are taxed similarly to income from the underlying stocks or bonds inside them. For U.S. taxpayers, this income needs to be reported on form 1099-DIV. 2 If you earn a profit by selling an ETF, they are taxed like the underlying stocks or bonds as well.

How are ETF fees charged? ›

An ETF expense ratio tells an investor how much they'll pay over the course of a year to own the fund. For example, if an ETF expense ratio is 0.20%, the investor's cost to hold the fund for a year is $20 for every $10,000 invested.

What is a reasonable ETF fee? ›

Expense ratios can range from as low as 0.03% for some passively managed ETFs to over 1% for actively managed or specialized ETFs. Factoring in 0.5% to 0.75% for actively managed fees is considered to be around the average.

Do Vanguard ETFs have transaction fees? ›

Vanguard Brokerage doesn't charge additional fees for a purchase, a sale, or an exchange of any load mutual fund offered through our program. You must buy and sell Vanguard ETF Shares through Vanguard Brokerage Services (we offer them commission-free online) or through another broker (which may charge commissions).

How to calculate the cost of ETF? ›

This value is taken from the most recent closing prices of the holdings of the ETF (on a weighted basis) plus any cash that it holds. Then, deduct any liabilities that the ETF may have on its balance sheet and divide that amount by the number of ETF shares outstanding.

How does the expense ratio get paid? ›

The expense ratio is how much you pay a mutual fund or ETF per year, expressed as a percent of your investments. So, if you have $5,000 invested in an ETF with an expense ratio of . 04%, you'll pay the fund $2 annually. An expense ratio is determined by dividing a fund's operating expenses by its net assets.

What is the tax loophole of an ETF? ›

Thanks to the tax treatment of in-kind redemptions, ETFs typically record no gains at all. That means the tax hit from winning stock bets is postponed until the investor sells the ETF, a perk holders of mutual funds, hedge funds and individual brokerage accounts don't typically enjoy.

Are ETF fees tax deductible? ›

However, like fees on mutual fund, those paid on ETFs are indirectly tax deductible because they reduce the net income flowed through to ETF investors to report on their tax returns. Other non-deductible expenses include: Interest on money borrowed to invest in investments that can only earn capital gains.

Why don't ETFs pay out capital gains? ›

For starters, because they're index funds, most ETFs have very little turnover, and thus amass far fewer capital gains than an actively managed mutual fund would. But they're also more tax efficient than index mutual funds, thanks to the magic of how new ETF shares are created and redeemed.

Is 0.35 expense ratio good? ›

A good expense ratio, from the investor's viewpoint, is around 0.5% to 0.75% for an actively managed portfolio. An expense ratio greater than 1.5% is considered high.

What is fees expense ratio? ›

Expense ratios are annual fees that investors pay to cover a fund's expenses, such as management and marketing. If you invest in a fund with a 1% expense ratio, you'll pay $10 annually for every $1,000 invested. Expense ratios are subtracted automatically, making them easy to miss.

What is the expense ratio of the S&P 500 ETF? ›

The total expense ratio (TER) of S&P 500 ETFs is between 0.03% p.a. and 0.15% p.a.. In comparison, most actively managed funds do cost much more fees per year.

What is the expense ratio of healthy ETF? ›

Fundamentals
AUM₹41Cr
P/E Ratio35.84
No. of Stocks20
P/B Ratio5.11
Expense Ratio0.22

References

Top Articles
Latest Posts
Article information

Author: Frankie Dare

Last Updated:

Views: 6075

Rating: 4.2 / 5 (73 voted)

Reviews: 88% of readers found this page helpful

Author information

Name: Frankie Dare

Birthday: 2000-01-27

Address: Suite 313 45115 Caridad Freeway, Port Barabaraville, MS 66713

Phone: +3769542039359

Job: Sales Manager

Hobby: Baton twirling, Stand-up comedy, Leather crafting, Rugby, tabletop games, Jigsaw puzzles, Air sports

Introduction: My name is Frankie Dare, I am a funny, beautiful, proud, fair, pleasant, cheerful, enthusiastic person who loves writing and wants to share my knowledge and understanding with you.