Mutual fund families have traditionally left the topic of how to allocate certain fund expenses to management and fund officers.

While many expenses, such as advisory fees, are driven by annualized basis point formulas at the fund level, other expenses, such as audit, trustee, legal and Chief Compliance Officer, touch the entire fund family and must be allocated to each fund through some methodology. For most complexes, the allocation is done in one of three simple ways:

  • Straight-Line
  • Relative Net Assets
  • Blended - some combination of the above 

An Example - Audit Fees

A recent survey of audit fees showed a number of factors contributed to the audit fee, and a model could predict the audit fee. A major aspect was complexity. Complexity was defined through a number of factors, including the number of complex securities.

Huntington Funds created a model for all funds allocating audit expenses using a hybrid model of Straight-Line, Relative Net Assets and Complexity. Each method was assigned a percentage that could be varied. Each methodology received a one-third weighting, including assignment of a complexity score. This blend achieved our desired goal of assessing more of the fee to the more complex funds and less to the less complex funds.

The allocation to Straight-Line ensures that each fund pays a base amount. As all auditors will tell you, there is a certain amount of work that must be done on every fund. The Relative Net Assets portion acted as a "smoothing agent" to mitigate any severe impact, positively or negatively, to any fund. However, the result also shifted more expense to funds that might be small, but complex. We believe this to be one of most important outcomes-each fund should pay its fair share of the expenses.

Expense Allocation for Other Line Items

Our model raised questions of applicability to other expense line items. Certain other expenses are generally allocated across the fund complex. These include:

  • Trustee Compensation
  • Legal Fees
  • Insurance
  • Chief Compliance Officer Expenses

While no methodology is completely wrong or completely right, it is appropriate to question the methodology, or at least fully understand it and its impact. To gain this understanding, seek input from others in your organization, including your auditors, counsel, etc. Remember there is no one right answer. However, a disciplined approach that can be clearly analyzed and articulated with your Board may give you greater expense control, while demonstrating the level of diligence required in today's regulatory environment.
Jeff Young is Senior Vice President, Relationship Management for Huntington Asset Services. In his role, he oversees all client relationships, product strategy and marketing. He also serves as a President and Principal Executive Officer for multiple fund complexes, as well as Chairman of the Board of the Valued Advisers Trust.

To view the complete version of this Industry Commentary, visit the Mutual Fund Service Guide website at mmexecutive.com/mutual-fund-guide. Click on the Fund Accounting section.

Subscribe Now

Access to premium content including in-depth coverage of mutual funds, hedge funds, 401(K)s, 529 plans, and more.

3-Week Free Trial

Insight and analysis into the management, marketing, operations and technology of the asset management industry.