12b-1 fund is a mutual fund that charges its owners a 12b-1 fee. A 12b-1 fee covers the costs of distributing and marketing a mutual fund. It is often used as a commission to brokers on the sale of the fund.
The 12b-1 funds participate in the fixed assets and thus pay high commissions and sales costs. These costs are included in the fund’s expense ratio and are described in the prospectus. The 12b-1 charge is sometimes referred to as a “level charge”.
Look at a glance
— A 12b-1 fund pays a 12b-1 fee which covers the costs of selling and distributing a fund.
— These charges represent a percentage of the market value of the Fund, as opposed to Funds which charge a reloading or selling charge.
— 12b-1 Charges include the costs of marketing and selling fund units, payment to brokers and other sellers of the funds, and advertising costs such as printing and sending fund prospectuses to investors.
— Once popular, 12b-1 funds have lost interest from investors in recent years, especially given the rise of exchange-traded funds (ETFs) and low-cost mutual funds.
Realizing 12b-1 Funds
The name 12b-1 comes from the Investment Company Act of 1940’s Rule 12b-1, which allows fund companies to act as distributors of their own shares. Rule 12b-1 also states that a mutual fund’s own assets can be used to pay distribution costs.
Distribution costs include the costs of marketing and selling fund shares, such as compensation for brokers and others who sell fund shares and pay for advertising, printing and sending prospectuses to new investors, as well. as printing and sending sales documents. The SEC does not limit the amount of 12b-1 fees that funds can pay, but the FINRA rules allow 12b-1 fees that are used to pay for marketing and distribution costs (as opposed to service costs to shareholders), 0.75% of the fund unit does not exceed the average net assets per year.
Some 12b-1 plans also allow and include “shareholder service fees,” which are fees paid to individuals to respond to investor inquiries and provide investors with information about their investments. A fund can pay shareholder service fees without adopting a 12b-1 plan. If the shareholder service charge is part of a Fund’s 12b-1 plan,
that charge will be placed in this category of the fee schedule.
If a Shareholder Service Fee is paid outside of a 12b-1 plan, it will be placed in the “Other Expenses” category, which is explained below. FINRA sets an annual limit of 0.25% on shareholder service charges (whether or not these charges are approved as part of a 12b-1 plan).
Originally, the rule was supposed to pay for advertising and marketing costs; however, today a very small percentage of the fee is used for these costs.
The 12b-1 funds have fallen out of favor in recent years. The growth of exchange-traded fund (ETF) options and the subsequent growth of low-cost mutual fund options have offered consumers a wide range of options. In particular, the 12b-1 fee is seen as a dead weight, and experts believe that if consumers shop around, they can find comparable funds that charge a 12b-1 fee.