# Understanding 12b-1 Fees: What They Are and How They Impact Mutual Funds

> **Definition**
>
> A 12b-1 fee is an annual charge mutual funds assess against investors to cover the costs of selling shares in the mutual fund to other investors.

## 12B-1 Fee: What It Is and What You Should Know

A 12b-1 fee, named after a section of the Investment Company Act of 1940, is an annual marketing or distribution fee that [mutual funds](https://www.investopedia.com/terms/m/mutualfund.asp) charge. This fee is part of the expense ratio and can range from 0.25% to 1% of the fund's net assets. Primarily, it compensates intermediaries who sell the fund's shares. Critics argue that while intended to lower costs through economies of scale, it mainly rewards salespersons without enhancing fund performance.  

### Key Takeaways

*   A 12b-1 fee is an annual marketing or distribution fee included in a mutual fund's expense ratio, often ranging from 0.25% to 0.75% of a fund's net assets.
*   Originally intended to help investors by reducing overall fund expenses through increased asset growth, the 12b-1 fee is now primarily used to compensate intermediaries for selling fund shares.
*   The 12b-1 fee is divided into two components: the distribution and marketing fee, which is capped at 0.75%, and a service fee that can be up to 0.25%.
*   Class C shares are more likely to incur the maximum 1% 12b-1 fee, while Class A shares typically charge a front-end load with a lower or no 12b-1 fee.
*   The Securities and Exchange Commission (SEC) began reviewing the application and disclosure of the 12b-1 fees in 2015 to ensure compliance with regulations.  
    

## How 12b-1 Fees Impact Mutual Fund Investors

The 12b-1 fee gets its name from Rule 12b-1, which was adopted by the [Securities and Exchange Commission](https://www.investopedia.com/terms/s/sec.asp) (SEC) in 1980 under the [Investment Company Act of 1940](https://www.investopedia.com/terms/i/investmentcompanyact.asp). The rule's purpose was to enable a mutual fund to raise funds for marketing purposes while limiting its ability to charge existing investors for the cost of doing so.

One rationale for making it easier to raise funds for marketing was that gaining more investors meant a fund could achieve greater [economies of scale](https://www.investopedia.com/terms/e/economiesofscale.asp) and reduce transaction costs, thereby benefiting all investors. Critics of the 12b-1 rule argue there is no evidence that 12b-1 helps funds grow or that existing shareholders benefit from any such growth.

Under the rule, mutual funds are forbidden from using fund assets to pay for the marketing of the fund unless they submit a 12b-1 plan approved by the fund's directors, including independent directors, and disclose the fees as a separate line item their prospectuses. The 12b-1 fee for marketing purposes is limited to 0.75% of assets annually, and the fund’s board is obligated to regularly reevaluate the benefits of the plan to the fund shareholders.

Still, 12b-1 fees have come under fire over the years. After all, marketing the fund to new investors does little to enhance a fund's performance, and with total mutual fund assets in the U.S. topping $20 trillion, funds don't need to attract investors nearly as much as when Rule 12b-1 was passed.

## Components of the 12b-1 Fee Explained

The 12b-1 fee can be broken down into two distinct charges: the marketing fee, also known as the distribution fee, and the service fee. Total 12b-1 fees charged by a fund are limited to 1% annually. The marketing piece of the total fee is capped at 0.75%, while the service fee can be up to 0.25%. The 12b-1 fee is included in a fund's [expense ratio](https://www.investopedia.com/terms/e/expenseratio.asp).  

The 12b-1 fee covers such expenses as advertising, printing and mailing prospectuses, but the bulk of the money goes to commissions for brokers who sell shares in the fund to other investors.  

## What Is the Purpose of a 12B-1 Fee?

The 12b-1 fee was designed to enable mutual funds to gain investors via marketing and broker commissions while limiting the amount of money they could draw from the fund's assets to pay for it. It was created in 1980, following the long bear market of the 1970s, when mutual funds saw massive withdrawals.

## How Can a 12B-1 Fee Impact Long-Term Investment Returns?

Like all fees, the 12b-1 fee can have a significant impact on investment returns. A 12b-1 fee of just 0.75% can cost an investor $35,000 in lost returns on a $100,000 investment that returns 5% annually over 20 years.

## What Is the Maximum Allowable 12B-1 Fee a Mutual Fund Can Charge?

The total 12b-1 fee is capped at 1% of assets annually. That includes a maximum of 0.75% for marketing and up to 0.25% for a services fee.

## The Bottom Line

The 12b-1 fee, an annual marketing or distribution fee on mutual funds, is included in the fund’s expense ratio. Initially implemented to reduce costs through economies of scale, it now primarily compensates intermediaries for selling fund shares.

Critics argue it doesn’t enhance fund performance, and its necessity is questioned as mutual fund assets grow. The fee, limited to 1% annually, consists of a distribution and marketing charge and a service fee.

Investors should be aware of these fees in mutual fund shares, such as Class B and Class C, where they often appear, as they can increase the overall expense ratio and affect the fund's cost-effectiveness. Always review a fund’s prospectus for detailed fee disclosures, as these fees can have significant implications on investment returns.  

> **Article Sources**
>
> 1.  Securities and Exchange Commission. "[Guidance Update](https://www.sec.gov/investment/im-guidance-2016-01.pdf)."
>     
> 2.  Investment Company Institute. "[Rule 12b-1 Resource Center](https://www.ici.org/rule12b1fees)."
>     
> 3.  Securities and Exchange Commission. "[The Cost and Benefits to Fund Shareholders of 12b-1 Plans](https://www.sec.gov/files/rules/proposed/s70904/lwalsh042604.pdf)."
>     
> 4.  Securities and Exchange Commission. "[Mutual Fund Fees and Expenses](https://www.investor.gov/introduction-investing/investing-basics/glossary/mutual-fund-fees-and-expenses)."