Clean share classes

Collective investment funds typically come in a variety of ‘flavours’, with different share classes on offer to suit different types of investors.

These different share classes are used to include or exclude various charges.

There are three main charges for investors to consider. These are fund management, platform administration and advice.

By offering different share classes, fund managers can include one, two or three of these charges in the overall charge levied by the fund.

When the Retail Distribution Review (RDR) is fully implemented at the end of this year, commission can no longer be paid from retail investment funds. As a result, fund managers are starting to offer ‘RDR-ready’ share classes for their funds.

These new share classes are ‘clean’ in terms of commission and platform administration charges.

For a typical actively managed fund which has an annual management charge of 1.5%, the new ‘clean’ share class might charge 0.75%, purely for fund management costs. This represents the removal of a 0.25% charge for platform administration and 0.5% for adviser commission.

Depending on the approach taken by the individual fund manager, the new share class might exclude only adviser commission, reducing a 1.5% annual management charge to 1%.

Advisers such as Informed Choice who already operate with the modern remuneration method of adviser charging, ahead of this being introduced on a compulsory basis at the end of the year, have been using cash rebates.

Cash rebates work by refunding the platform administration and adviser commission charges from the fund annual management charge into the client cash account on a wrap platform.

Platform costs and any agreed advice fees are then charged on an explicit basis to the cash account.

This method of cash rebates means our clients see precisely what they are paying for fund management, platform administration and advice.

We understand that the FSA has an eye on removing the ability to operate on this cash rebates basis in the future, because some advisers have suggested to clients that it means platform and advice costs are ‘free’. There are always a few that spoil things for the many!

Once every fund offers a ‘clean’ share class, the need to use a system of cash rebates will be reduced. Until then, it is the best way to manage the costs of fund management, platform administration and advice within a single platform.

Moving from one share class to another within the same fund could, in some circumstances, result in a capital gains tax charge. Investors and their advisers will need to carefully plan any future transition from ‘bundled’ share classes including commission to ‘clean’ share classes excluding this cost of advice.

Photo credit: Flickr/Jez B