Front End Load

Updated on April 9, 2024
Article byNiti Gupta
Edited byAshish Kumar Srivastav
Reviewed byDheeraj Vaidya, CFA, FRM

Front End Load Meaning

Front End Load refers to the commissions or the one-time charges deducted from the investments at the time of their initial purchase. It generally applies to mutual funds, insurance plans, and annuity plans. The load is removed upfront and the net amount afterload, which finally goes into the investment stream.

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Front end load is included in the initial purchase amount that an individual or entity pays for a financial product. It is basically the commission that is paid to brokers for providing investors with matching deal per suitability. This commission is deducted from the total price investors pay and hence, the remaining figure becomes actual money investment in the product.

Key Takeaways

  • Front-end load refers to the commissions or one-time fees deducted from investments at the time of their initial purchase. 
  • This type of load is typically associated with mutual funds, insurance programs, and annuity plans. The load is deducted upfront, and the remaining net amount is then invested.
  • Front-end loading represents the compensation paid to financial intermediaries for identifying and selling investments that meet the investor’s criteria. These charges are one-time fees paid at the time of purchase and do not recur.

How Does Front End Load Work?

Front end load is the charge paid as compensation to the financial mediators for finding and selling the desired investment as per the investor’s specifications. These are only one-time charges that only need to be paid originally at the time of purchase and not repeatedly. It reduces the amount of money invested as these charges are deducted from the primary deposit amount. Front end load is imposed as a percentage of the cumulative investment or premium paid either as a mutual fund, life insurance, or annuity. This percentage differs among investment companies but generally fluctuates within the spectrum of 3.75% to 5.75%. Lower front-end charges are levied in mutual funds, annuities, life insurance investments, etc., and comparatively higher charges are charged for equity-based mutual funds.

The front end load is different from back end load, which is the amount paid at the end of the period when investors decide to sell the product. Additionally, there are no load options where investors are either required to pay very low charges or not required to pay any commission at all to intermediaries.

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Formula

To understand how to calculate front end load, it is important to know its formula. Surprisingly, there is no specific formula to be followed. Instead, basic mathematics calculation method is involved.

When Net Asset Value (NAV) and the front end load applicable for a product is known, the commission value can easily be derived by multiplying the percentage with NAV and adding the resultant to the known NAV.

Examples

Let us consider the following instances to understand what is front end load and also its calculation:

Example #1

Let us assume that Samaira has invested $1,00,000 in DSP Merrylynch’s mutual fund in the top 100 equity scheme. The Front End load applicable for the scheme is 5%. In this, the front end load for the transaction that will go to the investment company will be $1,00,000 * 5% = $ 5,000. Hence the actual investment in the equity scheme will be $1,00,000 – $5,0000 = $95,000. Samaira’s portfolio, therefore, will reflect investments in mutual funds to the tune of $95,000. The risk-free rate of return is assumed to be 10%. So the fund house will have to generate a 15.79% yearly rate of return to reach $1,10,000 i.e., at par had the $1,00,000 been invested in risk-free assets.

Example #2

Let us assume the Jerry has invested $10,000 in a fund that has a front end load of 5% and the Intermediary commission of 10% of the 5% load charged. In this case, $10,000 * 5% = $500 will be the front end load, which shall be deducted from the Investments. Hence, Jerry’s investments will be recorded as $10,000 -$500 = $9,500 in the Assets in Accounting. For the fund house, $500 will be income generated of that 10% will be remitted to the intermediary for executing the trade. The commission paid to the intermediary will be $500*10% = $50. Thus the intermediary can generate $50 as income for recommending the right plan to the investor and increasing the inflow of the mutual fund.

Advantages

Front end load is the charge that is included in the initial amount that is paid for purchasing an investment product. It is an amount that investors bear to pay for the brokerage services involved in making the transaction happen.

The front end load payment ensures a lot of things. Listed below are the advantages of having this front end load charges attached to a financial instrument purchase. Let us have a look at them below:

  • Investors are willing to pay the front end load to the financial intermediaries since they conduct the required research on behalf of the investor on which fund to buy and what are the prospects of the same.
  • Those who lack knowledge about the workings of the Mutual Funds find this route attractive since they get necessary information and inputs from the intermediaries by paying a small number of fees.
  • Retail investors do not have to do the entire process themselves. The intermediary does the same on behalf of their clients.

Disadvantages

The benefits of paying front end load are many, however, there are multiple limitations associated with these commission or charges, which is also important to be known to investors. Some of these restrictions are as follows:

  • High loaded funds can have an impact on the aum and the comfort of the investors.
  • Those investors who are experts in the financial markets and know the working of the fund houses will not go to the intermediaries for the investment decision. Instead, they would prefer to do their research and select the right fund.
  • With the direct plans launched by the fund houses, it is now very easy for even a layman to invest in the funds directly without going to the brokers and paying a high amount of fee.
  • Not appropriate for the conservative investor.
  • Less popular nowadays since the back end load system has taken over the market, and people prefer to pay a back end load on their redemptions from the profit generated rather than lower their cost & investments upfront.

Front End Load vs Back End Load

Back and front end load in mutual funds indicate payment of commissions at different two different stages of investment. Let us check the following points to see how they differ from each other:

  • A front end load is the commission amount paid to an intermediary along with the initial purchase amount for the investment product. On the contrary, a back end load is the charge that investors pay to brokers when they take out their money from the fund.
  • While the front end load becomes part of the total amount that one pays for an asset, and which gets deducted by the brokers, thereafter, the back end load is the charge that gets deducted from the principal or profits when the investment is sold by the investor.

Frequently Asked Questions (FAQs)

1. What is front-end load vs. no-load?

Front-end load refers to the commissions or fees deducted from investments at the time of purchase, while a no-load fund does not charge such fees. Front-end load funds have upfront charges that reduce the initial investment, whereas no-load funds do not have these upfront charges, allowing the entire investment amount to be deployed.

2. What are the risks associated with the front-end load method?

The primary risk of front-end load investments is the potential impact on overall returns. Since a portion of the investment is deducted as fees upfront, it reduces the initial investment amount and may take longer to recover the cost. Additionally, the front-end load can further erode returns if the investment does not perform well.

3. What is the common front-end load percentage?

The front-end load percentage can vary depending on the investment product and provider. It typically ranges from 1% to 5% of the invested amount. However, it’s important to note that some mutual funds offer variations of front-end loads, such as breakpoints or reduced loads for larger investments, which can lower the percentage charged.

Recommended Articles

This has been a guide to Front End Load and its meaning. Here, we compare it with back end load, explain the formula, examples, advantages and disadvantages. You can learn more about finance from the following articles –