A 12b-1 fee refers to a mutual fund's distribution fees, such as for advertising and public relations, that fund investors often pay for. The SEC requires that such charges be reported. These fees are generally used for advertising and other promotional efforts, and some are rebated directly to the person or firm that recommended the mutual fund to its clients. Whereas loads are sales charges paid directly to the agent at the time of sale, 12b-1 fees accumulate continuously and reward the agent for keeping your money invested in that fund.
The Motley Fool Independence Fund does not charge its shareholders 12b-1 fees.
An account minimum is the least amount of money that you must initially contribute to a mutual fund.
For the Independence Fund, the Great America Fund and the Epic Voyage Fund, the account minimum for the Investor Share Class is $500 and the Institutional Share Class is $100,000.
Administrative costs are those that a mutual fund incurs for day-to-day operations, such as for keeping records, sending out mailings, and maintaining a customer-service line.
These are all necessary costs, but they vary in size from fund to fund.
Asset allocation is the act of dividing investment dollars among various asset classes -- typically cash investments, bonds, and stocks -- as well as across different sectors.
Assets under management
Assets under management (AUM) refers to the market value of all of the assets that an investment company manages.
Average cost is one of three methods to determine the cost basis of the mutual fund shares you sell. Under this method, you determine the average price of all of your shares, including those that you purchased with reinvested dividends and capital gains. That price becomes your cost basis.
Beta is a measurement of the volatility of a fund security in comparison with the entire market. The S&P 500 usually serves as the point of comparison. A beta of greater than 1.0 shows that the fund is more volatile than the market, and a beta of less than 1.0 indicates less volatility than the market.
A blended fund is a mutual fund that generally consists of a combination of growth stocks and value stocks.
Board of directors
The board of directors is a group of people that a fund elects to oversee its management and daily operations on behalf of the fund's shareholders. The board members meet several times each year. Motley Fool Funds board members are paid an annual retainer and receive an attendance fee for every board meeting they attend.
A bond fund is a mutual fund that invests in bonds.
Such a fund is considered a fixed-income vehicle. Most bond funds pay interest monthly. The yield that bond funds pay tends to track market rates, but the net asset value, or NAV, varies with the market price of the bonds in the portfolio, rather than with the interest paid per share.
A capital gain is the result of a successful investment that has been sold at a profit. A capital loss is the result of an unsuccessful investment that has been sold at a loss.
When a mutual fund manager sells a stock, the sale realizes short-term and long-term capital gains or losses. Capital gains may be taxable income, while capital losses may be offsets to taxable income. Under the federal income-tax code, long-term capital gains are currently taxed at a special reduced rate -- currently 15% or less -- that makes it advantageous for people with investments in taxable accounts to comply with the requirements for that tax rate. State income tax codes vary, but most do not provide special rates for capital gains.
Capital gains distribution
A capital gains distribution is the method that mutual funds use to pay their net realized capital gains to shareholders. Many mutual fund holders reinvest their distributions to accrue more shares.
By law, every year, a mutual fund must distribute that year's net investment income (the total of dividends and interest received, less fund expenses) and net realized gain (gains less losses on securities sales) to its shareholders. These distributions are taxable income reported to the IRS on Form 1099. Investors must report income from these distributions on their tax returns.
You should generally refrain from making mutual fund purchases late in the calendar year. Otherwise, you risk making a purchase just before the fund makes its distribution. You would thus have to pay for gains you didn't participate in.
Index funds generally have the advantage of fewer capital gains distributions, because they make fewer buy-and-sell transactions. Tax-managed mutual funds make an effort to minimize capital gains distributions as well.
The cost basis is the original price paid for an investment, including commissions.
Disclosure of mutual fund after-tax returns
Disclosure of mutual fund after-tax returns refers to an SEC rule requiring all mutual funds to state explicitly their after-tax returns in their prospectuses, as of Feb. 15, 2002.
A dividend is a share of a company's earnings paid to each stockholder. Typically, dividends are paid on a quarterly basis, and the company's board of directors determines the amount of the payout. A mutual fund pools the dividends it receives from the individual companies in its portfolio and periodically distributes them to the fund's shareholders.
Dow Jones Industrial Average
The oldest and most widely known index of the U.S. stock market, the Dow Jones Industrial Average (also known as The Dow or DJIA) represents the price movements of the 30 companies that are considered to best represent the American economy.
The DJIA is a benchmark group of stocks maintained and reviewed by the editors of The Wall Street Journal. Changes to the component stocks are rare. Charles H. Dow launched the DJIA in 1896 to help investors see the market's long-term trends, instead of just daily fluctuations. Watching the performance of this basket of leading stocks today gives investors a sense of how the overall market is faring and offers a point of comparison for the performance of their own stocks.
The expense ratio is the percentage of total assets that go toward paying for mutual fund expenses.
FIFO, or first-in, first-out, is a method for determining the cost basis of the mutual fund or stock shares you sell. Corporations use FIFO to track inventory and cost of goods sold (COGS).
For investors, FIFO refers to the default method the IRS uses to calculate the sale of your shares. If you sell only a portion of a holding, the IRS assumes that the first shares you purchased are the ones you sold, unless you direct your broker to sell specific shares. The first shares you bought tend to be the lowest-priced ones, so this method usually results in a higher gain -- and a higher gain means higher taxes.
A fund manager is the controlling authority of an individual mutual fund. The manager, generally an asset-management company, is hired by the board of directors, whose members are in turn elected by the fund's shareholders.
The fund manager is responsible for overseeing the fund's investments, customer-service activities, and other associated functions, including compliance with SEC requirements and bylaws to publish the prospectus, conduct an annual meeting, issue proxies and annual reports, and negotiate for services such as broker commissions and research.
The fund manager is compensated by a management fee, which is accrued daily. The fee is included in the expense ratio reported for the fund.
A growth fund is a mutual fund that tends to invest in rapidly growing companies. The asset managers focus less on value and more on growth.
An index fund is a passively managed mutual fund that is constructed to match the components of a particular market index. Partially because of their lower expenses, index funds outperform the majority of actively managed mutual funds.
Individual retirement account (IRA)
An individual retirement account is a tax-deferred retirement account set up with a financial institution such as a bank, broker, or mutual fund in which contributions may be invested in many types of securities, including stocks, bonds, money market funds, and CDs.
The investment style of a mutual fund refers to what philosophy drives its purchases. Typical designations include growth fund, value fund, index fund, managed fund, bond fund, small-cap fund, large-cap fund, balanced fund, gold fund, and sector fund, among others.
Large-capitalization ("large-cap") stocks
Large-capitalization stocks are the stocks of companies whose market value is above a designated minimum, usually in the neighborhood of $10 billion.
LIFO, or last in, first-out, is a method for determining the cost basis of the mutual fund or stock shares when you sell them. Investors typically use LIFO or FIFO when selling their shares. You might use LIFO if the shares you purchased most recently were priced higher than your earlier purchases. Although LIFO decreases your paper profits, it also reduces the taxes you owe.
Load funds are mutual funds that assess a sales charge when you purchase the shares. The Motley Fool Independence Fund, in contrast, is a no-load fund.
A front-end load is the sales charge a fund investor pays at the time of purchase. Funds with front-end loads are sometimes called "A" shares. They charge an initial sales commission that typically ranges from 2% to 8.5% of the investment. The fee may also apply to interest, capital gains, and reinvestments of dividends. These funds usually also charge a 12b-1 fee.
A back-end load is a mutual fund fee assessed upon redemption. Funds with back-end loads are sometimes called "B" shares. They impose a "contingent deferred sales charge," or CDSC, which is paid at the time of redemption. The good news is that the CDSC declines incrementally to zero over time and usually disappears in five to eight years. Such funds charge 12b-1 fees, which are typically higher than for front-end-load funds. These funds may also convert "B" shares into "A" shares after the load period has expired, thereby lowering the ongoing 12b-1 fees.
A level load refers to a mutual fund one that has no front-end or back-end load but charges a 12b-1 fee in excess of 0.25% Funds with level loads are sometimes called "C" shares. Their 12b-1 fees are high and accumulate continuously. Any fund with no front-end or back-end load that charges a 12b-1 fee in excess of 0.25% is considered a level-load fund. A no-load fund, in contrast, may not charge a 12b-1 fee that exceeds 0.25% per year.
A managed fund is a mutual fund that hires a professional manager who is compensated with a management fee as part of the fund's expense ratio.
An index fund attempts to match the performance of a well defined underlying index and does not need an active professional manager.
A management fee, also called an advisory fee, is a charge levied on fundholders, generally once a year, for managing the fund and providing shareholder administration services. The fee is typically a fixed percentage of the total value of the mutual fund. In some cases, a portion of the management fee is based on whether the fund outperforms or underperforms its stated objectives.
Mid-capitalization (mid-cap) stocks
Generally, mid-capitalization stocks are those whose companies' market value stands between $1 billion and about $10 billion.
Morningstar Style Box
Investment-research company Morningstar has broken down the world of domestic mutual funds into fund size (small-, medium-, and large-cap) and objective (growth, value, and blend). The Morningstar Style Box resembles a tic-tac-toe board and helps people choose the funds most suited to their investing style. Once you know which "style box" a fund is in, you can compare it with the other mutual funds that are similarly classified and, in many cases, with a relevant index fund.
A mutual fund is a financial instrument that allows an investor to own a collection of stocks and/or bonds.
Mutual funds follow a variety of investment styles. They can be classified as an index fund, managed fund, growth fund, value fund, balanced fund, sector fund, gold fund, energy fund, technology fund, bond fund, closed-end fund, money market fund, and municipal bond fund, among other designations. For details on a specific fund, refer to its prospectus.
Mutual fund company
A mutual fund company is the promoter of one or more mutual funds. Examples include Vanguard, Fidelity, T. Rowe Price, Janus, Pimco, and Motley Fool Funds. In many cases, the mutual fund company will also own the asset-management company hired to oversee its funds.
The mutual fund company's primary responsibility is to market its mutual fund -- often through brokers, financial planners, and other providers of financial services. The company also must manage various functions to meet SEC requirements, which include publishing a fund prospectus, conducting an annual meeting of shareholders, issuing a proxy statement, and providing for the election of a board of directors, which has the authority to hire and fire fund managers.
For marketing the funds, the fund company may collect 12b-1 fees, which it discloses in the prospectus. Every day, a fraction of the annual fee (1/365th of the annual percentage times the fund assets calculated at closing each day) is deducted from the fund assets and paid to the mutual fund company for these services.
Every mutual fund company has two sides. The front side provides customer service and account recordkeeping, sends out statements, and processes new purchases and withdrawals, while the back office manages the investment portfolio. Most managed funds have a fund manager to oversee the investment portfolio, although a few companies hire management firms to do the work. For these services, the fund manager (or management firm) receives a management fee as part of the expense ratio.
Net asset value (NAV) per share
The net asset value, is the value of all of a fund's assets -- cash, stocks, bonds, and so on -- less liabilities, such as management fees and marketing charges. Divide the net asset value by the number of mutual fund shares to calculate the price at which you can buy or sell the fund. That figure is the NAV per share.
No-load funds are mutual funds that do not assess a sales charge when you purchase its shares. The Motley Fool Independence Fund is a no-load fund.
Portfolio management is the practice of making investment decisions for an investor's portfolio. At its root, portfolio management is driven by asset selection, which in turn is driven by the portfolio's philosophy and goals.
Within the mutual fund universe are two types of portfolio management: active and passive. An actively managed fund has a fund manager or team of managers who make specific buy-and-sell decisions based on the fund's philosophy and goals. A passively managed fund tracks a pre-selected investment index.
A portfolio manager is any individual or team of people responsible for making investment decisions for a portfolio.
A prospectus is a legal document that provides information about a potential investment. Included in the documents are discussions of its investment objectives, policies, and risks. In the United States, the Securities and Exchange Commission requires the filing of a prospectus for any securities offering.
A redemption fee is a charge levied for selling shares of an index fund. The fee is typically a fixed percentage of the fund's total value. Many funds charge a fee only if shares are sold within a short time of purchase.
For the Independence Fund, the redemption fee is 2% of the value of shares held for fewer than 90 days.
A rollover IRA is a traditional individual retirement account that holds money originating from a qualified plan, such as a 401(k) after an employee has left that plan. It offers the investor the ability to defer paying taxes on the 401(k) distribution received after leaving that plan.
A Roth IRA is an individual retirement account to which contributions are not tax-deductible. Withdrawals from the account are tax-free.
Simplified Employee Pension (SEP) IRA
An SEP IRA enables a small employer to establish a retirement plan for employees without the complex administration and expense found in qualified retirement plans, such as a 401(k). An employer may establish an SEP only if that employer has no qualified retirement plan in effect. Under an SEP, the employer may make a contribution of up to the lesser of 15% or $30,000 of compensation to IRAs established in each employee's name.
Small-capitalization ("small-cap") stocks
Small-capitalization stocks are those whose companies have a market capitalization of $1 billion or less.
Specific identification is one of three methods to determine the cost basis of the mutual fund shares you sell. Under this method, if you bought shares at various times, you can pick the ones you paid the most for and declare that those are the ones you sold. Doing so reduces the amount of your taxable capital gains, but you receive the same proceeds.
This method requires keeping accurate records. You must notify your fund company of the quantities and purchase dates of the shares to be sold, and you must have evidence for the IRS of the choice you made when you sold.
Statement of Additional Information
The statement of additional information, or SAI, is an informational document for mutual funds. It offers greater detail on many matters mentioned in a fund's prospectus. The SAI is legally considered part of the prospectus.
You can read a fund's SAI by requesting it from the investment company or by visiting the SEC's website.
A traditional IRA is an individual retirement account in which contributions may be tax-deductible, non-tax-deductible, or both. Taxable gains in the portfolio are deferred until funds are redeemed after the investor reaches age 59 1/2.
In investing, turnover refers to the length of time the average investment remains in a portfolio. The value is usually expressed as the percentage of assets that are sold within a one-year period. A high turnover indicates that investments are being bought and sold rapidly; a low turnover shows that they are being held for longer periods.
Turnover is an important consideration for investors, because every purchase or sale of a stock, whether in an individual portfolio or a mutual fund, incurs fees. Furthermore, capital gains taxes are about twice as high for investments held for less than one year. And finally, high turnover, also known as churn, creates higher transaction costs, which lower an investor's overall returns. Mutual funds with lower turnover rates will leave their shareholders with lower tax bills at the end of the year.
Uniform Gifts to Minors Act (UGMA)
The Uniform Gifts to Minors Act is a law adopted in many states that provides a method for giving irrevocable gifts to children while maintaining custodial control over the account. You or some other custodian who acts on behalf of a minor manages the UGMA account. When the child turns a certain age -- anywhere from 18 to 25, depending on the state -- the assets must be turned over to the child.
Uniform Transfers to Minors Act (UTMA)
Similar to the Uniform Gifts to Minors Act, the Uniform Transfers to Minors Act permits the transfer of gifts in addition to cash and securities (such as real estate or art) to children, while you or another adult custodian maintains control over the account.
A value fund is a mutual fund that buys stocks of undervalued companies in hopes that those stocks will reach or exceed their preassessed intrinsic value.