After five years of study, the Canadian Securities Administrators (CSA) propose prohibiting deferred sales charges (DSC) on the sale of mutual funds.
Many investors don’t understand how DSCs work.
When a mutual fund is sold with a DSC sales commission, that commission is shared by the selling investment dealer and the investment adviser. The commission can vary but it is often five percent.
If an investor purchases $100,000 of mutual funds the commission paid by the mutual fund company is $5,000. That effectively locks the investor to that fund company because if they withdraw their money within the next six or seven years they will be charged an exit commission.
The exit commission is often six to seven percent if the investor exits in the first year and declines steadily over the next seven years to zero.
For example, if soon after purchasing the $100,000 of mutual funds the investor sold that investment, the mutual fund company would keep $6,000. Assuming the market value did not change during the time of ownership, their mutual fund sales proceeds would be $94,000.
There are two problems with DSCs.
The benefit of having an investment adviser is receiving advice. Advice has value and therefore justifies a fee. Remunerating an adviser based solely on a transaction, and not the ongoing financial advice, seems backward in this day and age.
The second problem with DSCs is the lack of transparency. According to CSA research, a significant number of investors were not aware their funds had been purchased with a DSC and did not recall this being explained to them.
A healthy relationship between an investor and their adviser should be based on receiving good financial advice in a transparent manner.
Ending deferred sales charges is a step in the right direction and will benefit investors.
Peter Watson is an agent of, and securities products are provided by, Aligned Capital Partners Inc. (ACPI). ACPI is a member of the Investment Industry Regulatory Organization of Canada (IIROC) and the Canadian Investor Protection Fund (CIPF). The opinions expressed are those of the author and not necessarily those of ACPI. Peter Watson provides wealth management services through Peter Watson Investments