There are two key metrics when considering the costs associated with mutual funds and exchange-traded funds (ETFs): the gross expense ratio and the net expense ratio. The gross expense ratio includes all fees and expenses incurred by the fund, such as management fees, administrative costs and operational expenses. While the net expense ratio reflects the actual cost to investors after accounting for any temporary fee reductions or reimbursements by the fund’s management. For specifics about your portfolio, a financial advisor can help you determine whether you’re paying more than you should for your investments.
What Is a Gross Expense Ratio?
The gross expense ratio offers investors a comprehensive view of the total annual operating expenses of a mutual fund or ETF, expressed as a percentage of the fund’s average net assets. This ratio accounts for all the costs associated with managing and operating the fund, including management fees, administrative fees, distribution and marketing fees, as well as other operational expenses.
Unlike the net expense ratio, which accounts for any fee waivers or reimbursements from the fund’s management, the gross expense ratio does not include these temporary reductions. This means the gross expense ratio often represents a higher percentage when compared with the net expense ratio, as it reflects the full, unmitigated cost of running the fund. And as such, the gross expense ratio offers a clear picture of what the fund’s expenses would be without any cost-saving measures in place.
What Is a Net Expense Ratio?
The net expense ratio reflects the actual annual cost of managing and operating a mutual fund or ETF after accounting for any fee waivers, reimbursements or temporary reductions offered by the fund’s management.
This ratio is expressed as a percentage of the fund’s average net assets and is designed to provide investors with a more accurate picture of the costs they will incur by holding the fund. Unlike the gross expense ratio, which includes all potential expenses, the net expense ratio considers the financial relief provided by the fund manager to make the fund more competitive and attractive to investors.
Fund managers may offer fee waivers or reimbursements for various reasons, such as attracting more investors or maintaining a competitive edge in the market. These cost-saving measures can significantly reduce the overall expense ratio, making it a key factor for investors when comparing similar funds.
Key Differences: Gross Expense Ratio vs. Net Expense Ratio
Here’s a breakdown of five key differences between both metrics that you should consider as an investor:
- Costs: The gross expense ratio includes all operating expenses of a mutual fund or ETF, such as management fees, administrative costs and marketing fees, giving a complete view of the fund’s expenses. In contrast, the net expense ratio represents the actual costs to investors after accounting for any fee waivers or reimbursements offered by the fund’s management, providing a more accurate picture of what investors will pay.
- Temporary reductions: Gross expense ratios do not account for any temporary fee reductions or reimbursements, instead reflecting the fund’s total potential costs under normal conditions. Net expense ratios, on the other hand, include these temporary measures, showing the reduced costs that investors benefit from.
- Impact on returns: Higher gross expense ratios can significantly impact the overall returns of a fund by reducing the amount of profit passed on to investors. Conversely, the net expense ratio, being lower due to fee reductions, means a smaller portion of returns is consumed by fees, potentially leading to higher net returns for investors.
- Investor decision-making: Gross expense ratios provide a broader understanding of a fund’s total expenses without any adjustments, which is useful for evaluating the fund’s expense structure in its entirety. Net expense ratios, however, offer a realistic view of what investors will actually pay, making them a critical factor in comparing the true cost-efficiency of different funds.
- Competitive edge: Fund managers might use fee waivers to lower the net expense ratio temporarily, enhancing the fund’s appeal and competitiveness. The gross expense ratio, unaffected by these temporary measures, remains stable, reflecting the fund’s standard cost structure without adjustments.
What’s a Good Expense Ratio?
A good gross expense ratio will depend on whether your funds are managed actively or passively. Those that are actively managed can be significantly higher than those with passive management because they may require frequent buying and selling of assets, in-depth research and active decision-making by fund managers
According to the Investment Company Institute (ICI), the average expense ratio for index equity ETFs in 2023 fell to 0.15%, while the average for index bond ETFs remained unchanged at 0.11% Comparatively, the average expense ratio for equity mutual funds fell to 0.42% in the same year, and the average for bond mutual funds remained steady at 0.37%.
Bottom Line
The gross expense ratio can offer you a comprehensive view of all the potential costs that a fund may incur, while the net expense ratio reflects the actual costs investors will pay after any fee waivers or reimbursements. By considering both ratios, investors can better assess the true cost-efficiency of their investment options.
Investment Planning Tips
- A financial advisor can help you interpret an investment’s gross and net expense ratios, and apply them to a broader investment strategy for your portfolio. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- If you are considering an investment, SmartAsset’s free online investment calculator could help you estimate how it will grow over time.
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