how the total expense ratio ter works
the size of the ter is important to investors as the costs are withdrawn from the fund affecting investors returns for example if a fund generates a return of 7 for the year but has a ter of 4 then the 7 gain is greatly diminished to roughly 3 the ter provides a way for the annual costs of running a particular fund to be covered it takes all of the known costs associated with the fund s operation and expresses them as a single number generally as a percentage drawing its basis from the assets associated with the fund this means that the amount provided as the ter is dependent on the success of the particular fund the funds supplied through the ter are used to support the management trading and legal fees associated with the fund as well as any audit costs or general operating expenses anytime a fund incurs higher or lower operating expenses those changes are likely passed along within the ter the more actively managed the fund the higher the associated ter this is due to increased personnel costs as well as increased transaction based fees the fund manager pays a brokerage fee each time a buy and sell trade is executed by comparison an automated or passive fund has significantly lower costs of operation resulting in a lower ter total expense ratio ter formula and calculationbelow is the formula and the steps to calculate the ter to calculate the ter understanding operating expensesoperating expenses or operating costs cover any outgoing financial obligations associated with the management of the fund and the corresponding transactions this can include employee compensation and brokerage fees in addition to any accountant fees other common expenses include shareholder communications and financial statements record keeping mechanisms and custodial services from the overseeing organization or asset manager a small percentage of the ter may be directed to other business operation costs this can include expenses as simple as space rental and utilities for the business often these expenses are referred to as overhead and include any financial obligation that is not necessarily directed to the actual production of a good or service 