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Good Riddance To Deferred Sales Charges

As of January 1, 2017, Investors Group has eliminated deferred sales charges (DSC) on all new lump sum investments to their funds. The good news is that dropping the DSC is part of a new trend by investment brokers to replace this archaic charge for withdrawing your own money with a more up front fee-for-advice model.

The bad news is that if your investments are already in funds with a deferred sales charge, you still have to pay the fee if you want to redeem those funds.

What is a deferred sales charge, anyway?

Deferred sales charges are a way for financial advisors to earn a commission on the sale of a fund’s shares to investors. Generally, it’s the payment for the broker’s expertise and gives them an incentive to suggest a particular fund for the investor’s portfolio.

A deferred sales charge (or back-end load) is a fee that investors pay when selling their mutual fund units. The fee amount is a percentage of the value of the units sold. It can be a flat fee, or can gradually decrease over time, usually within five to 10 years.

When the specified holding period ends, it drops to zero.

The Deferred Sales Charge was created to provide discipline to long-term investing.” – Investors Group Website

Rather than creating discipline, it more likely glued investors to their advisors with no consideration for the level of service provided.

Here’s an example of the penalty schedule for early withdrawals:

  • 1 – 2 years – 5.5%
  • 3 – 4 years – 5.0%
  • 5 years       – 4.0%
  • 6 years       – 3.0%
  • 7 years       – 2.0%
  • 7 + years   – 0 %

Good riddance to deferred sales charges

The dilemma of breaking free, or waiting out the scheduled payment period

Investors hate to pay onerous fees, especially when they are so obviously transparent. This makes them hold on to high MER funds until the holding period is over to avoid paying. Many firms allow you to redeem 10% of your holdings at no cost every year.

So, is it worthwhile to stay put until the DSC schedule expires? Or do you bite the bullet and make the switch to low cost ETFs or index funds?

It doesn’t take a math expert to see the difference in dollar terms, especially when you take into account the higher MERs you are paying as well year over year.

Assume you invested $20,000 in XYZ Mutual Fund which has an MER of 2%. After 5 years, the investment has grown to $24,000 and you are ready to sell. You discover you have to pay a 4% deferred sales charge. Of the $24,000 current value $960 (24,000 X .04) is paid to the fund company and the investor walks away with $23,040. Ideally, the earnings from such an investment should be high enough that, after the fee is paid, the investor still has a net gain.

In the above example, assuming the balance of the holdings is always between $20,000 and $24,000 for the five years, the investor will also have paid between $400 and $480 each year.

Most index funds and ETFs have MERs of under .5%, (one quarter of the above scenario).

So, why wait? By trying to save on deferred charges, you are still paying high MERs on the funds. You will find that in most cases it makes sense to pay the DSC. By pulling the plug and moving on you receive a huge saving right away on your new funds.

Paying a Deferred Sales Charge is unwarranted in today’s price-competitive investment world.

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7 Comments

  1. My Own Advisor on March 10, 2017 at 11:41 am

    “Paying a Deferred Sales Charge is unwarranted in today’s price-competitive investment world.”

    Totally agree.

    Caveat emptor though – the financial products market isn’t the only one buyers need to be aware in.

    Bloggers like us can continue to get the word out, an informed decision can lead to a good decision.

    Keep up the good work,
    Mark

  2. Lawrie Dignan on March 11, 2017 at 11:46 am

    I was bitten by Investors too .. wish that they would out together a “good faith” differed sales charge payback plan !

  3. Murray Lang on March 12, 2017 at 7:12 pm

    So how does the advisor get paid now?

    • boomer on March 13, 2017 at 10:24 am

      @Murray Lang. Don’t worry that these advisors will now have to work for free. They get paid for the initial client investment by the mutual fund company and ongoing trailer fees for as long as the client is invested.

      Also, as mentioned above, there is a trend towards using the fee-for-advice model going forward.

  4. Kevin on March 13, 2017 at 4:14 pm

    I have about $500K I put into a seg fund in April 2016 – DSC is on an annual sliding scale starting at 6% in the first year and declining by one percent per year. I’m also allowed to withdraw up to 10% of the fund value each year without penalty. If I’m planning on retiring in 4.5 years, does it still make sense for me to move to a low-cost ETF portfolio now? Thank you.

    • boomer on March 14, 2017 at 4:46 pm

      @Kevin. Without knowing more about your financial situation I can’t tell you if that will be suitable for you.

      When changing any investment strategy your need to (1) do the math and (2) know yourself.

      Segregated funds sometimes fit into an overall estate plan. Consider these features:
      – Unlike mutual funds, seg funds provide a guarantee to protect the money you invest (75 – 100%) in the event of a market downturn. You have to hold the funds for a certain length of time to benefit from this guarantee (10-15 years). Some funds have a reset feature.
      – There is a guaranteed death benefit not subject to probate so the funds go directly (and quickly) to your beneficiary and the DSC is waived. Calculate whether the fund’s higher MER will cost you more or less than probate fees.

      These features can bring peace of mind to some, no matter what the cost.

  5. NA on April 1, 2017 at 5:46 pm

    The deferred sales charge serves a purpose for investors who would otherwise sell their funds at the wrong time.
    The investor can still switch funds within the same fund family without cost, the adviser should recommend a fund family with lots of choices. If sold properly and the fees are disclosed there still is place for the DSC, especially for accumulators who otherwise may purchase bank funds with no advice.

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