Mutual fund investments often come with costs such as expense ratios, transaction charges, and brokerage fees that can affect your overall returns. These charges may seem small, but they can add up and reduce the actual profit you make from your investments. One such fee to keep in mind is the exit load in mutual fund investments, which can apply when you withdraw your money before a certain period. Let’s dive into what MF exit load means and how it affects your investments!
What is Exit Load in Mutual Funds?
Let’s start by understanding the exit load meaning. Exit load is a kind of fee levied by an asset management company when you redeem your units before a specific period. To put it simply, you can think of the exit load in a mutual fund meaning as the price you pay for withdrawal. AMCs do this mainly to prevent investors from selling their units before a certain period has passed.
Not all mutual fund schemes levy an exit load, and their structure can also differ from fund to fund. The details of all charges are given in the scheme document, which every investor should go through before investing.
The AMC charges a percentage of your investment’s redemption value as an exit load. This value is deducted from your final redemption proceeds. For example, suppose you invest in an equity mutual fund that charges a 1% exit load. Your investment’s value has grown to Rs. 1 lakh in 5 months, and now you wish to redeem it prematurely. The fund will charge 1% of Rs. 1,00,000 = Rs. 1,000 as exit load because you redeemed your investment early. You will receive Rs. 99,000 as a result.
How is Exit Load Calculated?
For exit load calculation you need to know three things:
- The exit load structure of the fund. This contains the percentage as well as the specified holding period. Remember that every fund has its own exit load structure so read the scheme’s information document to understand it.
- The NAV of the fund the day you invested and redeemed your investment.
- The number of units you hold.
Let’s understand exit load calculation in mutual funds with an example. Suppose Radhika invested a lump sum of Rs. 2 lakh in an equity fund on 1st January 2024. On that day, the NAV of the fund was Rs. 250. According to the scheme’s information document, the fund can charge an exit load of 1% if the investment is redeemed before one year.
Due to some emergency, Radhika had to prematurely cash out, so on 1st July 2024, she decided to redeem her entire investment. By then, the fund’s NAV had grown to Rs. 270. Here’s how the exit load can be calculated:
Investment amount: Rs. 2,00,000
NAV on the day of investment: Rs. 250
Number of units purchased: Rs. 2,00,000/Rs. 250 = 800 units
Investment’s value on 1st July: Number of units * NAV on 1st July
Investment’s value on 1st July: 800 * 270 = Rs. 2,16,000
An exit load of 1% will be charged on the investment value as she redeemed her investment within 1 year.
1% of Rs. 2,16,000 = Rs. 2,160
So, after redeeming her units, Radhika will receive Rs. 2,16,000 – Rs. 2,160 = Rs. 2,13,840
Types of Exit Load in Mutual Funds
Following are the different types of MF exit load that can be charged:
1. Fixed Exit Load
As the name suggests, this fee is fixed and stays constant throughout the specified period. For example, a mutual fund can have a fixed exit load of 2% if redeemed before three years.
2. Contingent Deferred Sales Load (CDSL)
This type of exit load decreases over time. The exit load is generally higher when you initially invest and as years go by, the exit load decreases. After the specified amount of time has passed, no exit load is charged.
3. Stepped Exit Load
The fee is reduced over time based on how long an investor has held the investment. For example, the exit load may be 2% if redeemed within the first year, 1.5% if redeemed in the second year, 1% in the third year, and no charge after the third year.
All these types of exit loads discourage investors from making early withdrawals and promote long-term investment.
Impact of Exit Load on Your Investments
As you can see from the calculation above, exit load has a direct impact on our mutual fund investment’s returns. Even though the fee may seem small, its impact can certainly be noticeable. When you redeem your units before the period specified by the fund house, you’ll need to pay a certain percentage of your investment’s value that will reduce your overall returns.
Long-term investors invest with the intention of holding beyond the exit load period, which allows them to avoid this fee completely. Short-term investors, on the other hand, should be more cautious of this fee. Similarly, if you think that you may need to liquidate your units early due to some unforeseen circumstances, you should consider how the exit load will impact your returns.
Why Do Mutual Funds Charge Exit Load?
The main reason why fund houses charge the exit load is to discourage investors from redeeming their investment before a certain period has passed. It encourages investors to stay invested for a minimum period, which not only limits the number of withdrawals but also allows the fund manager to operate the fund more effectively. Many mutual fund schemes, such as equity oriented schemes are designed with the long term in mind. If investors keep withdrawing frequently, the overall performance of the fund can suffer.
This also protects the interests of long-term investors. For example, if short-term investors keep entering and exiting a fund frequently and freely, and market conditions force these short-term investors to redeem their units en masse, it could create liquidity issues for the fund. The fund manager may have to sell assets at unfavourable prices to meet all these sudden redemption requests, which can have a very negative impact on the fund.
Exit Load in Different Types of Mutual Funds
Before we get into how exit loads vary across different types of mutual funds, it’s important to note that not all mutual fund schemes charge an exit load. For those that do, the exit load can differ quite a bit from one scheme to another. Various factors, such as the investment horizon and the fund house’s policies all play a part in the exit load structure. Having said that, here’s how the exit load works for different categories of mutual funds:
1. Debt Mutual Funds
These types of mutual funds invest in bonds and other fixed-income securities and are generally used by short-term investors. The main goal of these funds is to provide liquidity to investors. Most debt funds do not charge any exit load at all, and those that do charge a lower exit load compared to equity mutual funds. For example, liquid funds are a type of debt fund designed to provide very high liquidity. They almost never charge an exit load, and when they do, the fee is minimal and levied only when the investment is redeemed within a week.
2. Equity Mutual Funds
Equity funds invest in stocks and are favoured by investors with a long term horizon. They can be quite risky in the short term, so fund managers tend to focus on longer-term strategies. To discourage investors from making early redemptions, equity funds can charge an exit load between 1% and 2% if redeemed within one year. After this period, the exit load is waived. There are, however, many equity funds that don’t charge an exit load at all.
3. Hybrid Mutual Funds
Hybrid funds invest in debt and equity instruments, and based on the allocation, they can be classified as balanced, debt-oriented, or equity-oriented. Hybrid funds with higher allocation to equities generally charge a higher exit load compared to debt-oriented funds.
Conclusion
Exit load is a type of fee charged by mutual funds to encourage investors to stay invested for a longer period. The percentage of exit load in mutual fund investments depends on the type of fund and the asset management company offering the scheme. Not all schemes charge an exit load, so it’s important to read the scheme documents carefully to understand the exit load percentage and how long it applies. Since this fee can reduce your overall returns, it’s a good idea to compare exit loads across funds within the same category when making a choice. The lower, the better.
However, you should know that exit load is not the only factor to consider. Along with fees, you should also look at other important factors like the fund’s performance over the past 3, 5, or 7 years to check consistency, the track record of the fund manager, the size of the AMC’s assets under management, risk-adjusted returns, and the fund’s investment goals. Always make sure to align these factors with your own financial goals, risk tolerance, and investment horizon.
