Mutual funds can be a valuable addition to your investment portfolio, allowing you to diversify and gain broader exposure to the market. Mutual funds are divided into different classes based on how they meet various criteria, particularly how and when sales charges, or "loads," are paid. Understanding the differences between the classes will help you determine whether class B shares are appropriate for you or if purchasing another fund class will better fit your investment strategy.
Mutual Fund Classes
Class A mutual funds typically have an upfront sales charge, or “front-end load,” which is taken from the initial investment. Class A funds often offer breakpoints, which are lower sales charges, if you reach certain levels of investment, such as $25,000 or $50,000. Class B funds do not have a sales charge when you purchase the shares but instead charge a fee, called a contingent deferred sales charge (CDSC) or “back-end load,” when you sell shares. Class C funds also charge a back-end load, but it is generally less than that of Class B funds and in many cases is not charged if shares are held more than one year. However, Class C funds usually have higher annual operating expenses than the other two classes.
Pros of Class B Funds
Because no sales charges are taken when the Class B fund is purchased, the full amount of your investment is in your account working for you. For example, if you invested $50,000 in a Class A mutual fund with a 2 percent load, $1,000 would go immediately to sales charges, leaving an actual investment of $49,000 in the fund. With Class B funds, all $50,000 is actually invested. Additionally, the CDSC decreases each year until it reaches zero, usually in seven to 10 years. Class B shares often offer the option to convert to Class A after a certain period, which is beneficial if you intend to hold the fund for a number of years.
Cons of Class B Funds
All mutual funds charge an annual 12b-1 fee, which covers the costs of advertising and marketing the fund. Class B and Class C funds usually have higher 12b-1 fees than Class A funds, usually charging the maximum allowable 1 percent, as opposed to around 0.25 percent for Class A funds. Class B funds also have higher annual operating expenses than Class A funds, although these are reduced if the shares are eventually converted to Class A shares. Finally, Class B funds do not offer breakpoints, so there is no discount in sales charges regardless of the amount invested.
Carefully read the prospectus and consider consulting a financial adviser or broker before purchasing any mutual fund. If you plan to hold the fund for a number of years, Class B funds may be appropriate because the CDSC may be zero by the time you sell your shares. In other situations, Class A shares may be more appropriate due to breakpoints or other considerations. There are also no-load funds, which have no sales charges of any kind. These are usually purchased directly from the mutual fund company without the assistance or advice of a broker.
Ben Bontekoe is a published writer with an extensive background in personal finance, banking, career counseling and education. A graduate of Calvin College, he has worked for major financial institutions including Bank of America and Citibank.