Exit Load in Mutual Funds - Meaning, Types and Calculation

Key Highlights

• When units are redeemed or sold by investors before the deadline, an exit fee is paid by the fund's management company.
• To discourage short-term trading and compensate the fund for the potential costs of early redemption of units, the exit load is to discourage short-term trading.
• The exit load is determined as a percentage of the units to be redeemed, which will be accounted for in the redemption proceeds.

What is Exit Load in Mutual Funds?

When an investor wants to withdraw from the fund or recover their units, asset management companies (AMCs) charge them an exit load. The principal aim of exit loads is to prevent investors from selling their investments before the expiration of the lock-in period.

Moreover, outflows from mutual fund schemes may be reduced by the exit load fee. However, exit charges are not imposed by all funds on investors. Therefore, when choosing a plan for your investment, you must take into consideration the aspects of exit load.

The exit load can be defined as a percentage of the net asset value (NAV) per mutual fund owned by an investor. The net asset value is the net asset of the entity and is calculated as the entity's assets minus its liabilities. In general, the exit charges are deducted from the total net asset value by AMCs, and their balance is recorded in an investor account.

Types of Exit Load in Mutual Fund

The types of exit load in mutual funds are as follows.

1. Equity Funds In general, equity funds carry higher exit risks compared to debt funds. For this reason, equity funds are designed to have a long-term investment horizon, and exit loads discourage frequent redemptions. Exit fees are charged by most actively managed equity funds, which means that investors must pay a charge when they redeem their securities before their expiration date.

2. Debt Funds The exit load of debt funds is usually lower than that of equity funds. However, some debt funds have no exit load charges, such as overnight and most short-duration Duration Funds. Investors can redeem their assets in these funds without paying exit load fees because they are intended for short-term investment goals. Many schemes within specific types of debt funds, such as banking and public sector funds and Gilt funds, do not charge exit fees, in addition to overnight and ultrashort duration funds.

By contrast, debt funds that adopt an accruals-based investment strategy levied exit fees more frequently and include securities in their portfolios until maturity. In these funds, the higher exit amounts are designed to encourage investors to remain invested until securities mature and reduce their risk due to changes in interest rates.

3. Hybrid Funds Hybrid funds, including arbitrage funds, impose the exit load for late redemptions. The funds are available to investors seeking a balanced approach, including equity and debt instruments. Many investors do not understand that arbitrage funds have no exit fee and are only intended for very short periods compared to overnight funds. However, the reality is that exit fees regarding redemptions carried out within a specific period are usually between 15 to 30 days for most arbitrage funds. Therefore, investors concerned with arbitrage funds should have a minimum investment period of at least one month in order not to incur exit load fees.

How to Calculate Exit Load in Mutual Funds?

At the time of exit, the exit load will be applied. This is calculated from the total redemption value of the fund.

Example of Exit Load

Let's say you have a net asset value of INR 50 to invest in the mutual fund scheme. You're investing 10,000 INR and getting 200 units of the mutual fund. If you redeem your investment within a year of making it, there is a 1% exit load associated with the scheme.

If the NAV is INR 55, you are supposed to return 100 units after five months. Since the redemption will take place after one year of investment, you would be required to pay an exit fee on that amount. So, let's figure out how to calculate that exit load.

• The number of units to be redeemed = 100.
• NAV on redemption = INR 55
• Exit load: 1% of NAV = 1% of 55 = INR 0.55
• The total redemption value that you get is (55 - 0.55) * 100 = INR 5,445

Where Does the Exit Load Go?

The exit fee is paid to the AMC, which, in turn, invests in the portfolio itself. AMCs must reinvest the exit load into the scheme portfolio as per SEBI. Mutual fund companies will retain a portion of the redemption price, which will be paid as an exit fee, and then pay you net proceeds from your refund. The exit load would be reinvested in the portfolio to allow existing investors to keep their capital invested.

Conclusion

For investors, it's essential to know about exit fees. After paying all the costs, it will give you an idea of how much money you will make. Please note that one Mutual Fund scheme may differ from one another by its specific exit load structure. You need to check all the details related to the mutual funds scheme. Know more about mutual funds & other technical aspects from Kotak Securities.