FINRA - Investor Information - Investor Alert - Class B Mutual Fund Shares: Do They Make the Grade?

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Printer-Friendly Class B Mutual Fund Shares: Do They Make the Grade?

June 25, 2003

Buying mutual funds through a broker or other investment professional usually means choosing among different mutual fund classes. The only differences among these classes is how much you will pay in expenses and how much your broker will be paid for selling you the fund.

We are issuing this Alert because we are concerned that investors may purchase Class B mutual fund shares when it would have been more cost-effective for those investors to purchase a different class of shares.

Before purchasing Class B mutual fund shares, you should determine whether this investment is in your interest, and not just in the interest of your broker or adviser who may receive higher commissions from the sale of Class B shares than other classes of fund shares.

Class B shares do not impose a front-end sales charge, but they may charge higher expenses that investors are assessed over the lifetime of their investment in a fund as compared to Class A shares. Class B shares also normally impose a contingent deferred sales charge (CDSC), which you pay if you sell your shares within a certain number of years.

In addition, investors who purchase Class B shares cannot take advantage of breakpoint discounts available on large purchases of Class A shares.

This Alert will explain the differences between mutual fund share classes and how to evaluate which class may be appropriate for you as well as suggesting some questions you may wish to ask your investment professional.

Know Your ABCs

A single mutual fund, with one portfolio, may offer more than one "class" of shares to investors. Each class represents the same interest in the mutual fund's portfolio, but has different fees and expenses. Your broker may also be compensated differently depending on what class of shares you choose. When deciding which share class is best for you, carefully consider:

How long you plan to hold the fund
The size of your investment
The expenses you'll pay for each class
Whether you qualify for any sales charge discounts

You can find out if a mutual fund has different classes by looking at the prospectus. The most common share classes - A, B, and C - are described below.

Class A Shares

These shares typically charge a front-end sales charge or "load" that is deducted from your initial investment. Often Class A shares offer you discounts, called breakpoints, on the front-end sales charge if you:

Make a large purchase
Already hold other mutual funds offered by the same fund family
Commit to regularly purchasing mutual fund shares
Have family members (or others with whom you may link according to fund rules) who hold funds in the same fund family

Typically, there are several breakpoints, and as you invest more and reach each of these thresholds, there is a greater reduction in the sales load. Breakpoints and the savings they can provide are explained in our Investor Alert Mutual Fund Breakpoints: A Break Worth Taking.

Sample Breakpoint Schedule (Class A Shares)

Investment Amount	Sales Load
Less than $25,000	5.0%
$25,000 but less than $50,000	4.25%
$50,000 but less than $100,000	3.75%
$100,000 but less than $250,000	3.25%
$250,000 but less than $500,000	2.75%
$500,000 but less than $1 million	2.0%
$1 million or more	0.0%

Class A shares may also charge 12b-1 fees, but they are generally lower than the 12b-1 fees of Class B and C shares. Because of the lower 12b-1 fees, the total annual fund operating expenses on Class A shares is generally lower too.

What Are 12b-1 Fees?

Named after the Securities and Exchange Commission (SEC) rule, these are the fees that you do not directly pay, but which are taken out of a mutual fund's assets annually to cover the costs of marketing and distributing the fund to investors. Like sales charges, 12b-1 fees can be used to compensate a broker or other investment professional.

Class B Shares

These shares do not impose a front-end sales charge that is deducted from the initial investment, but they do impose a 12b-1 fee that may be higher than those that you would incur if you purchased Class A shares. Class B shares also normally impose a contingent deferred sales charge (CDSC), which you pay if you sell your shares within a certain number of years. The CDSC normally gets smaller each year and eventually is eliminated after several years.

Sample CDSC Schedule (Class B Shares)

Years Since

Purchase

Contingent Deferred

Sales Charge (CDSC)

0-1 5%

1-2 4%

2-3 3%

3-4 3%

4-5 2%

5-6 1%

6+ 0%

Selling Class B shares during the period in which the CDSC applies can significantly diminish the overall return on your investment, especially when coupled with the higher annual expenses charged when you hold Class B shares.

Most Class B shares "convert" into Class A shares after a certain number years. When they convert, they will begin to charge the same annual fund operating expenses as Class A shares.

Keeping Track of B Shares
If you own Class B shares, be sure to keep track of when they are scheduled to convert to Class A shares - particularly if your fund shares are held in an account that's been transferred from one brokerage firm to another. You can find out when your B shares convert to A shares by looking at the prospectus or checking with your broker or adviser.

Class C Shares

These shares typically do not charge a front-end sales charge. And Class C shares also generally impose a lower CDSC than Class B shares, e.g., 1%, and for a shorter period, such as one year.

Like Class B shares, Class C shares typically impose higher annual fund operating expenses than Class A shares, due primarily to higher 12b-1 fees. But unlike Class B shares, they typically do not convert to Class A shares and instead continue to charge higher annual expenses - including 12b-1 fees - for as long as the shares are held.

Class C shares may be less expensive than Class A or B shares if you have a shorter-term investment horizon because you will pay little or no sales charge. However, your annual expenses could be higher than Class A shares, and even Class B shares if you hold your shares for a long time!

No Load Mutual Funds

Not all mutual funds charge sales loads. Called no load funds, these funds do not charge a front-end sales charge or a deferred sales charge, such as a CDSC. NASD rules also require that the 12b-1 fees not exceed 0.25% of the fund's average annual net assets in order to call itself a no load fund.

No load funds can be purchased directly from a mutual fund company or brokerage firm fund supermarket, but you won't receive the assistance of a broker or investment professional. For those wanting professional advice, no load funds also may be purchased through an investment adviser or broker, but you'll typically pay a fee for this advice. This means you will be paying a fee on top of the underlying mutual fund expenses.

Mutual Fund Classes Comparison Chart

Class A Class B Class C

Front-End Load Initial sales charge. Can be reduced or eliminated by breakpoint discounts None. None.

Contingent Deferred Sales Charge (CDSC) None. Declines over several years. Typically, lower CDSC than Class B that is eliminated after one year.

12b-1 Fees Typically, lower than Class B and C shares. Typically, higher than Class A shares. Typically, higher than Class A shares.

Converts to Class A Shares N/A. Convert to Class A shares after several years, thereafter reducing expenses. No. Annual expenses remain at Class C level.

"B"-ware of Missing Breakpoints

When purchasing Class B or C shares, investors cannot take advantage of breakpoint discounts available on large purchases of Class A shares.

In recent years, abuses regarding the unsuitability of large sales of Class B shares to investors have been investigated. See NASD Brings Enforcement Action For Class B Mutual Fund Share Sales Abuses And Issues Investor Alert on Class B Shares and NASD Charges New York Broker Todd M. Eberhard with Numerous Sales and Reporting Violations.

If you intend to invest an amount large enough to qualify for breakpoint discounts, always discuss with your broker or financial adviser whether Class A shares would be more suitable for you than other classes of shares.

To B or Not to B (Shares)

If you are considering a recommendation to purchase Class B shares, take the following steps:

Step One

Check out the fund: Read a fund's prospectus or Statement of Additional Information BEFORE you make a purchase. Pay particular attention to the discussion of fund classes and fees. If you are considering making a large investment, make sure you understand how breakpoints work and whether they apply to your situation. Don't be pressured into making an on-the-spot decision.

Step Two

Use FINRA's Mutual Fund Expense Analyzer to help you decide whether to buy Class A, B, or C shares, or any other share class offered.

You can use our Mutual Fund Analyzer to compare the expenses of different fund classes. Sales loads and expenses can vary widely from class to class. Because even small differences in expenses can make a big difference in your return over time, you need to compare how sales loads and other mutual fund expenses can impact your return. Using our Analyzer, sit down with or without your broker and run actual comparisons of (1) the amount you plan to invest, (2) how long you plan to keep the fund, and (3) fund's sales load and expenses per share class. See how purchasing different shares classes can alter your return.

Step Three

Show you're a knowledgeable investor by asking your broker or financial adviser:

Which class of shares is best for me, keeping in mind the amount of my investment and the length of time I plan to own the mutual fund?
Would you put in writing why, given my time horizon and the amount of the purchase, you think it would be more beneficial for me to purchase Class B shares, rather than another class of shares?
What breakpoints are available if the same amount of Class A fund shares were to be purchased instead of Class B shares?
How much will you be paid for selling me Class B shares, and how much for selling me other classes of shares?

Know what you're being asked to sign.
If your broker asks you to sign a written disclosure agreement stating that it is your choice to buy Class B shares, make sure you read the agreement and understand it. Take it home with you, think it over, or discuss your options with others.

Where to Turn for Help

If you believe that a sale of Class B mutual fund shares was improper, you can file a complaint online at FINRA's Investor Complaint Center.

Resources

Investor Alert, Mutual Fund Breakpoints: A Break Worth Taking
Investor Alert, Understanding Mutual Fund Classes

Mutual Fund and Exchange Traded Fund Expense Analyzer

Mutual Fund Breakpoint Search Tool

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