With all the hype and perception of F-Class shares, investors really need to understand the good and the bad of these investment options.
- Tax deductible fees. For non-RRSP accounts only, the fee charged by the advisor is tax deductible against income. If we assume a 35% tax bracket, that means a 35% savings in the after tax cost of the fee. It is important to note that the fee charged by the mutual fund company is still not considered tax deductible.
- Re-balancing. Many programs have a rebalancing function. As I have stated many times, rebalancing adds value to a portfolio over time.
- Reporting. Many programs promote that they have superior reporting. However, in my experience, reporting is one function that investors will never agree upon. As a result, I’m not sure this can really be called a benefit. However, before getting into an F Class program, you can always ask for a sample statement to see if you like what and how the information is being reported.
- Fee flexibility. In the mutual fund world, there is some flexibility given that you can choose between Deferred Sales Charge (DSC), Front End Fees (FE) and Low Load Options (LL). In the F Class arena, there are no upfront or back end fees and there is added flexibility in that you can negotiate your annual compensation fee.
What are not benefits
- Perception that you are not buying mutual funds. It is important to note that when you re buying an F Class fund, you are still buying the same mutual fund but in an unbundled format. F Class funds are still mutual funds.
- Lower fees if the fee is 1%. Remember that the average difference in Fees between A Class and F Class is about 110 basis points. If the advisor simply tacks on 1% onto the MER, than there is really no savings to the investor. However, if the account is a non-RRSP account that fee is tax deductible which provides some savings to the investor.
- MERs are transparent but not lower.
Benefits can depend on what you are used to in the first place. If you are currently an investor who is tired of paying transaction fees, you may benefit from this fee based approach. If you on the other hand are coming from just mutual funds and you are looking for a better way, I’m not sure F class funds will make a huge difference unless you can negotiate a lower compensation to your advisor.
Popularity of F Class
While most mutual fund companies offer F-class programs, many of them are not meeting initial sales forecasts. For James Cook, of Franklin Templeton, “I think it is more a function of timing as opposed to product merit.” Most F class programs were launched prior to the bear market of 2000 and sales in F class were slower just as sales in A class funds were slower.
Cook thinks that F class may be contributing to the shift away from pure DSC fund sales. “In the late 1990’s, 88% of our sales were to Deferred Sales Charge Funds. Today 30% of those have gone to alternative fee structures like the F Class, Front End or Low Load. I think investors are just becoming more aware of what is available to them. I also think more investor education is needed.”
From my standpoint, while the brokerage industry has a better adoption rate, the planning industry for the most part has not caught fire. For many planners, it may open up a discussion down a road that they to not want to head down. How much do you get paid and for what do you get paid for?
Value equals cost less benefit
Regardless of whether you are going to buy F-class or the traditional A-class shares of mutual funds, one of the most important questions to ask your financial advisor is what they do to provide value. The reality of advice is if you buy mutual funds from an advisor, you are going to pay for that advice. It may be hidden in the MER in the A-class or it may be transparent in the F-Class. The onus is on the investor to make sure they know what their expectation is for the added cost going to the advisor. If the benefit outweighs the cost, then you have value. If not, then you need to look elsewhere for that value.
My two cents
In the end, the F-class program is still a portfolio of mutual funds. You still have to select funds and ensure that proper portfolios are being constructed. They are neither better nor worse than the underlying A-class equivalent. The biggest difference is that the amount of money going to the financial advisor is transparent and negotiable. If you don’t negotiate, you may wind up paying the same or more as if you bought the mainstream fund.
I don’t think F-class are better suited for higher net worth investors than the A-class version. I think they are pretty much the same.
If your financial advisor is recommending that you move to F-class shares, you need to ask two very important questions:
- Why do you think F-class is right for me?
- How much am I going to pay in total after ALL fees are taken into account?
Try not to get caught up in the tax deductibility issue because in the end it is not as big of a deal than you might think. Advisors who say you are going to save 25% to 50% in fees because of the tax deductibility are over simplifying the analysis. If you are truly looking for a lower cost solution to investing, you are probably better off looking at other options than the F-class route.