Content area
Full Text
"...[W]e need new disclosures relating to broker dealer 'preferred lists,' ... Rule 12b-1 fees, and revenue sharing arrangements."
--Harvey J. Goldschmidt, SEC Commissioner (SEC [2003])
I n the distribution "advice" channel, mutual fund advisers directly engage financial intermediaries to sell fund shares to investors. The intermediaries include full-service broker-dealers (brokers), discount brokers, financial advisors, fund supermarkets, employer-sponsored retirement plans, and financial institutions. Financial intermediaries provide investment guidance, planning, and advice--at least to some degree--to investors. Intermediaries also facilitate shareholder transactions and provide maintenance of account records and periodic financial statements.
Mutual funds may indirectly (via fund distributors) compensate financial intermediaries with front-end loads and directly compensate fund distributors with shareholder back-end loads and contingent deferred sales charges. Funds may use 12b-1 fees paid from fund assets to compensate fund distributors and primarily brokers for sales distribution and continuing account servicing. Haslem [2016] discusses fund distribution in depth.
This study focuses on 12b-1 fees and revenue sharing involving distribution relationships among mutual funds, fund advisers (management companies), and brokers. These sources of sales distribution payments to brokers continue to generate ambiguity, opaqueness, and debate rather than normative transparency of disclosure to fund shareholders.
Krawczyk [2003] states that "[a]s a general matter, the 1940 Act prohibits a mutual fund from bearing the expenses of distributing and marketing its shares to the public. Rule 12b-1, adopted under the 1940 Act in 1980, permits a mutual fund to pay for such expenses under a plan that is adopted by the fund's board of directors in accordance with specified review and approval requirements and meets the substantive conditions of the rule."
Further, Krawczyk [2003] discusses that "[b]y the late 1990s, compensation arrangements for mutual fund sales generally entailed a 'package' of different compensation items, including a dealer concession, ongoing payments made under a Rule 12b-1 plan or other servicing plan, and so-called 'revenue sharing' arrangements pursuant to which fund service providers, such as investment advisers, distributors, and other fund service agents, paid additional amounts to a selling firm out of their own revenues."
Mutual fund revenue sharing payments are one of the least known--and opaque--costs to the average individual investor. So, what are revenue sharing payments? The National Association of Securities Dealers (now FINRA) is authorized under the amended Investment...