Total expense ratio, or TER, is the charge that a fund house charges its investors. The charges are levied by the asset management company (AMC) for investing in financial assets such as equities, bonds, gold and other assets.
TER is calculated by dividing the total annual cost by the fund's total assets averaged over that year and is denoted as a percentage.
AMCs have to incur two types of expenses:
Non-recurring expense- The expense that an AMC incurs during a fund launch. It is usually borne by the fund house.
Recurring expense- The expense needed to run the various mutual fund schemes. These include marketing expenses, management fee, distributors’ commission, registrar’s fee, trustee fee, etc. These fees collectively make up the Total Expense Ratio.
One shouldn’t keep TER as a parameter to choose from many mutual fund schemes. A lower TER doesn’t mean a better performing mutual fund. However, TER can help you choose between two funds of the same fund category and which have similar performance.
TER is also of utmost importance in debt and arbitrage funds where the returns are fixed.