When investors think about growing their wealth through investing in mutual funds, they often focus on the funds’ net asset value (NAV), assets under management (AUM) and past returns. However, a small but powerful factor is the expense ratio which can significantly influence long-term outcomes. In fact, a difference of even 0.5% in expenses compounded over years can meaningfully impact your portfolio’s growth.
Naturally, many investors might be wondering if low-cost funds can really help maximise returns, and how they fit with strategies like choosing the best dividend paying mutual funds or figuring out which is the best way to invest in mutual funds to accomplish your investment goals. We’ll break it down for you in this blog.
What Is an Expense Ratio?
The expense ratio, also called the Total Expense Ratio (TER), represents the annual fee that fund houses charge for managing your investment. It includes:
- Management fees
- Administrative costs
- Distribution fees (in regular plans)
While TER may look like a small percentage, it directly reduces your returns. For example, if a fund earns 12% annually and has a 2% expense ratio, your net return is 10%.
Funds with lower TERs (often index funds and ETFs) are considered among the best types of mutual funds for cost-conscious investors.
How Expense Ratios Impact Your Returns
The Total Expense Ratio (TER) directly affects how much of a mutual fund’s gross return actually reaches you. Even a small difference in TER compounds significantly over time. Lower expense ratios mean more money stays invested, allowing compounding to work more effectively. According to the Economic Times, a difference of just 1% in expense ratio can reduce your long-term corpus by several lakhs over decades of investing.
Passive funds like Nifty index funds and ETFs often have TERs as low as 0.1%–0.3%, while active funds typically range higher. Direct plans also usually carry lower TERs compared to regular plans, helping improve net returns over the long term.
That said, the best way to invest in mutual funds completely depends on your suitability, diversification choices, and alignment with your financial goals. This is where investing through a trusted distributor like Rurash Financials adds value. With expert guidance, curated fund recommendations, and ongoing portfolio support, you can combine cost efficiency with strategic fund selection for consistent long-term growth.
Best Way to Invest in Mutual Funds
The best way to invest in mutual funds in India is through SEBI-compliant, transparent routes:
- Directly via AMC websites or apps
- Through SEBI-Registered Investment Advisors (RIAs)
- Through mutual fund distributors, including banks
- Using third-party online distribution platforms like Groww or Paytm Money
While low-cost direct plans are gaining traction, a significant majority of retail investors continue to prefer the ease of access, personalised guidance, and ongoing service provided by intermediaries. This preference underscores the value investors place on professional advice to navigate the vast universe of mutual funds and make informed decisions aligned with their unique goals (Source: CRISIL-AMFI Mutual Fund Performance Insights, Page 4, “Foreword” section).
Whichever route you choose, ensure you complete the KYC requirements and evaluate both the fund’s performance and expense ratio before investing.
FAQs on Low-Cost Mutual Funds
- What are the benefits of low expense ratio mutual funds?
Low-expense ratio funds, or mutual funds with low TER, reduce the annual cost of investment, ensuring more of your money stays invested and compounds in the long-run. This is particularly beneficial for long-term wealth creation. - What is the 7/5/3-1 rule in mutual funds?
The 7/5/3-1 rule is a thumb rule used by advisors: equity funds may deliver around 7%–15% returns, hybrid funds 5%–10%, debt funds 3%–7%, and liquid funds 1%–4%. While not guaranteed, it helps investors decide which type of mutual fund is best based on their goals and risk appetite. - What is a good expense ratio for mutual funds?
A “good” expense ratio depends on the category. For actively managed equity funds, 1–2% is typical, while low-cost index funds and ETFs may have expense ratios as low as 0.1–0.3%. For many investors, these low-cost funds are considered the best type of mutual fund (Source).
- Do high expense ratios reduce mutual fund returns?
Yes. A higher expense ratio directly reduces net returns because it’s deducted annually from your investment. Over time, this compounds into a significant difference. That’s why many investors prefer low-cost strategies - Low-cost index funds vs actively managed funds: which is better?
Low-cost index funds are ideal for investors seeking market returns with minimal costs. Actively managed funds may outperform in certain market phases but come with relatively higher expense ratios. For beginners or cost-conscious investors, index funds are often considered the best way to invest in mutual funds. - Long-term benefits of low-cost mutual funds for retirement planning
For retirement planning, investing in low-cost mutual funds can help optimize your returns over time by minimizing expense ratios, allowing more of your money to stay invested. Whether through diversified equity funds, hybrid funds, or carefully selected dividend-paying funds, keeping costs low ensures that compounding works efficiently. While no single fund guarantees market-beating returns, disciplined investing in cost-effective mutual funds can meaningfully contribute to building a sizable retirement corpus, making them one of the best ways to invest in mutual funds for long-term goals. - Why is it important to know the expense ratio of a mutual fund?
The expense ratio is one of the most overlooked factors when investors choose funds. Understanding it ensures you don’t unknowingly sacrifice returns to higher fees. - Can low-cost mutual funds beat inflation better than high-cost ones?
Yes, low-cost mutual funds have a higher potential to outpace inflation over time. Lower expense ratios mean more of your investment returns stay in your pocket, enhancing the power of compounding. For instance, Vanguard’s decision to reduce fees across 87 of its funds is expected to save investors over $350 million in 2025, demonstrating the significant impact of cost reduction on investor returns. (Source). - Tax benefits of investing in low-cost mutual funds
Taxation for mutual funds in India depends on the type of fund and holding period, not the expense ratio. However, by choosing cost-efficient funds, investors can maximise post-tax returns. Equity Linked Savings Schemes (ELSS) offer tax deductions under Section 80C, making them one of the best ways to invest in mutual funds for tax savings (Source).
Final Thoughts
For mutual fund investors, expense ratios play a significant a role in your wealth creation journey. By combining low-cost funds with a strategy that aligns with your goals, you can maximise returns. Whether you’re looking for the best mutual funds, deciding which type of mutual fund is best, the key is to balance cost, performance, and your unique financial objectives.