Q. I read with interest your very comprehensive article comparing the charges of mutual fund class B shares to mutual fund class A shares. It answered questions that I have had for some time. Please compare these same charges to No-load funds for me. How does the No-Load fund company receive its charges?
---B.T., Wilmington, IL
A. No load mutual funds don't have charges comparable to the up front commission of "A" shares or the large annual 12b-1 charge associated with "B" shares. I mean that literally.
They don't need to collect those charges because they use what marketing types call another "distribution channel." When a fund is sold by a sales force there has to be a way to recover the cost of supporting that sales force. Fund companies that choose this distribution path often have both "A" and "B" shares. This distribution channel is expensive because it involves direct, one-to-one contact.
No-load funds, on the other hand, don't have a commission compensated sales force. They sell through advertisements, word-of-mouth, and sometimes through raw performance. This is much less expensive.
One of the most interesting phenomonon of recent years is the number of load funds converting to no-load funds simply because the load restrains their asset growth. PBHG Growth, for instance, was went from being a $22 million load fund to a $3 million load fund before shifting to no load in 1992. The move, along with the top ratings in Morningstar ( the Chicago firm that tracks mutual fund performance) and top performance, has brought them to $5 billion in assets.
Much the same has happened with Heartland funds, albeit on a smaller scale.
FPA Capital, on the other hand, has been in operation since 1962 and has been managed by Robert L. Rodriguiz for 12 years. Mr. Rodriguiz is one of the best money managers in America with a performance that puts him in the top 2 percent of all small company funds over the last 10 years and the top 7 percent in the last five years.
Yet the fund has only $468 million in assets.
By way of comparison, T. Rowe Price Small-Cap Value, a small company fund started in 1988 with a 5 year ranking in the 43 percentile has nearly $1.3 billion in assets.
What explains the difference?
The T. Rowe Price fund is no load while FPA Capital carries a 6.5 percent front end load, one of the highest in the industry.
Davis New York Venture, a load fund managed by Shelby Davis, is another long term winner, placing in the top 10 percent of all growth funds over the last 10 and 15 years. It's assets are just over $2 billion. That's a significant amount, but very small compared to many lesser funds with no load or smaller loads. I would be willing to bet that the $1 billion no load fund he now manages, Selected American Shares, will surpass it in size.
What we are witnessing is a massive change in marketing channels. While a no-load fund does not guarantee superior performance, the investing public simply isn't willing to support the burden of high marketing costs.
But how, you might ask, can the no load funds afford to do any marketing at all?
Simple. The advisory fee is large enough to provide for some amount of marketing and advertising expense and still allow the management firm to be profitable. Anyone who doubts that need only compare the typical cost of a Vanguard fund at 20 to 40 basis points ( 0.2 to 0.4 percent a year) with the expense ratio of the average fund, load or no load, to see there is plenty of room for marketing in the advisory fee of the typical no load fund.
Q. I am 44 years old, and I hope to retire by age 57. I have a business with a qualified pension and profit sharing plan into which I have contributed for 13 years. The plan now has about $575,000 divided between Vanguard Index 500 and Total Bond Index funds.
My wife is a good money manager and has accumulated a similar amount in a non-qualified taxable savings account using Fidelity, T. Rowe Price, and Mutual Series funds.
My question is: should I be concerned about over funding my qualified plan and paying extra tax on withdrawal? Can you suggest a book or resource concerning this?
---S.S., Fergus Falls, MN
A. The mail bag has been full of similar questions since a July 7th column in which a reader asked about the "trigger point" for the "excess tax" on large IRA accumulations. The first thing
everyone should know is that this is, and will remain, a rare problem.
The most common tax problem facing many retirees is the tax on Social Security benefits which starts when the combination of ½ of Social Security income, plus tax-exempt interest, plus your normal adjusted gross income (AGI) exceeds $32,000. ( $25,000 for a single or head of household return)
The trigger point for the 15 percent excess tax is a withdrawal over $150,000 a year. Amounts over that pay an additional 15 percent in income taxes which could bring the effective federal tax rate to over 50 percent. While a retiree can limit withdrawals before age 70 ½ to less than $150,000 it is possible he may be forced to make larger withdrawals later, which is a nice kind of problem to have.
While the tax law is simple, figuring out whether you will face it and what you might do about it is a lot more complex. You can read about it in a few paragraphs in the "Ernst & Young Tax Guide for 1996" but if you are likely to face this tax, you need some sophisticated tax planning from a good sized accounting firm.
