SEBI regulations save MF investors from paying extra charges

Mutual funds (MFs) have come a long way in the way the products are designed to the way they’re made available to the investors. Securities Exchange Board of India (SEBI) has been on a constant vigil to protect the investor’s interests while allowing innovation to prosper in the industry.

In continuation of this, the regulator has mooted for the creation of ‘execution only platforms’ (EOP), a new fund-distribution (or selling) body. This is a reactive measure considering that these players are already in the market but don’t fit into the conventional menu of the regulator.

The MF industry has evolved in the last many decades. Initially, the Unit Trust of India (UTI) used agents, like those of the insurance agents to generate the MF sales, who were appointed by the company. Post the entry of other MF houses, these agents continued to provide the forms and collected the requisite documents, cash/cheque which was submitted with the fund companies. A commission amount was paid by the fund house to the agents for the services rendered. This commission was typically treated as an ‘entry load’, a percentage of the amount of the investment (of the investor) which was put aside by the fund house for this purpose.

Come 2010, SEBI categorised the commission as a service by the agent towards the fund house and hence directed the MF companies to pay from their own pocket and not from the investor’s investment amount. This regulation effectively abolished the ‘entry load’ which also tried to plug the malpractice of unnecessary churn of the investment (mostly at the insistence of the agent) as the commission was primarily upon the initial investment.

By 2013, SEBI has brought a regulation so that all MF houses are to provide a choice for the investor to either invest through a distributor (agent) or ‘direct’ with the fund house. Thus, the direct scheme category has come into full-fledged mode for all funds and fund houses. Though, the entry load was removed, the fund house still had costs (commission to be paid) to be incurred and so this was adjusted in the Net Asset Value (NAV). The regulator has insisted on the reduction of these costs while calculating the NAV for the direct plans as a pass-on benefit to the investor. So, there’s a difference between the NAV of the regular plan vis-à-vis a direct plan of the same scheme.

At the same time, the regulator also has clearly outlined the distinction between an advisor and a distributor. All the intermediaries who would derive their income from the fund company through commission are defined as distributors while those who are paid by the clients directly without any commission from the fund companies are defined as advisors. And moreover, the advisors would only deal with the direct scheme of the funds while the distributors are not supposed to recommend or advise the investors.

So, if an investor is completely novice or wanting to have a complete handholding of the investment journey including the execution then one could approach the distributor. And in cases where the investor is aware and well-versed with the investment options, could get only the recommendation, at a fee, from the advisor where the investor would transact directly. Also, alternatively, an investor could do his own research and transact directly through the MF houses which is a cumbersome exercise as one has to register over multiple fund houses one choses to invest with.

In the last few years, especially post the pandemic, there has been a slew of players offering MF investment avenues through their platforms. Many of these digital intermediaries either won’t collect a commission or don’t charge a fee (as they’re not registered advisors) but offer services of investing in the MF through direct plans over their platforms. These couldn’t be categorised as distributors or advisors from the current regulations.

The recent opening of discussion by the regulator to accommodate them is the evidence of their popularity. They may be allowed to operate and charge a fee so that it sustains the business while doing the job of an intermediary, albeit a new one, EOP. Earlier requests by these players for allowing them to charge fees from the investors or gain a commission from the fund houses was put down by the regulator. The actual regulation could be still months away, but the regulator seemed to have responded with change of heart.

(The author is a co-founder of “Wealocity”, a wealth management firm and could be reached at knk@wealocity.com)