What Is an Expense Ratio? Meaning & ETF Fees Explained

An expense ratio is the annual cost that a mutual fund or exchange-traded fund (ETF) charges to cover its operating and management costs. It’s typically expressed as a percentage of your overall investment in the fund and is automatically deducted. Because the cost is handled within the fund, you won’t receive a bill for it or see it listed as a separate charge on your account statements.

Because an expense ratio reduces the amount of money remaining in the fund, investors generally prefer funds with lower expense ratios, all else being equal. However, cost is just one factor to consider when comparing funds. Here’s a closer look at how expense ratios are calculated, what they include, how they’re charged, and what else to consider when evaluating a mutual fund or ETF.

How Expense Ratios Are Calculated

An expense ratio tells you how much you’ll pay over one year to cover a fund’s operating expenses and is typically given as a percentage. For example, if you have $10,000 invested in an ETF with 0.04% expense ratio, the annual expense would be approximately $4, assuming your balance remains at $10,000 for the year.

The actual amount you pay can vary as the value of your investment changes. The expense ratio is typically accrued daily rather than deducted from your account in one lump sum.

The expense ratio for an ETF or mutual fund is calculated by dividing the fund’s total operating expenses by its average net assets. The basic formula is:

Expense Ratio = Total Fund Costs ÷ Total Fund Assets

For example, if a fund holds $500 million in assets and $5 million in annual operating expenses, the expense ratio would be:

$5 million ÷ $500 million = 0.01

Expressed as a percentage, that’s an expense ratio of 1%. In simple terms, a 1% expense ratio represents approximately $10 in annual fund expenses for every $1,000 invested.

Recommended: How to Pick an ETF

How Expense Ratios Are Charged

Expense ratios are expressed as a percentage of a fund’s assets and aren’t charged as a separate bill to your account. Instead, fund expenses are usually accrued daily and paid from the fund’s assets. As a result, the cost is reflected in the fund’s net asset value (NAV) and investment performance.

The Components of an Expense Ratio

An expense ratio can include several types of operating expenses, depending on the fund. Common components include:

Management Fees

Management fees are generally one of the largest parts of an expense ratio. They compensate the investment adviser for managing the fund and making decisions about the portfolio.

Actively managed funds typically have higher management fees than passively managed funds because they typically require portfolio managers and research teams to evaluate securities and make investment decisions. Passive funds generally seek to track an index, which may require less ongoing research and portfolio management.

Marketing and 12b-1 Fees

A 12b-1 fee is a type of distribution and service fee that some mutual funds charge to cover certain marketing, distribution, and shareholder-service expenses. These fees are included in a fund’s annual operating expenses when applicable.

Not all mutual funds charge 12b-1 fees, and they are generally not a component of ETF expense ratios.

Administrative and Other Expenses

Expense ratios can also include administrative costs of recordkeeping, accounting, legal services, custodial services, and other expenses associated with operating the fund.

The specific expenses included can vary from one fund to another. The fund’s prospectus provides a breakdown of its annual operating expenses.

Other Investment Costs

Not every cost associated with owning a fund is included in its expense ratio. For example, portfolio transaction costs — such as brokerage commissions and other costs associated with buying and selling securities — aren’t included in a fund’s annual operating expenses.

A fund with a high portfolio turnover may incur more transaction costs than one that trades less frequently. Higher turnover may also result in more taxable capital gains distributions in a taxable account, although tax impact depends on the fund and an investor’s circumstances.

Investors may also encounter transaction-specific fees that are separate from the expense ratio, such as sales loads on certain mutual funds, redemption fees, or brokerage commissions. You’ll want to consider these costs separately when comparing the total cost of owning different funds.

Active vs. Passive Fund Expense Ratios

Expense ratios for passively managed funds are generally lower than those for actively managed funds, although there are exceptions.

Actively managed funds typically employ portfolio managers and research analysts to evaluate individual securities and make decisions about what to buy, hold, or sell. The added resources required to manage an active strategy may contribute to higher operating expenses.

Passive funds generally seek to track a specific market index rather than select securities based on ongoing investment research. Because the strategy involves less active decision-making, passive funds often have lower management expenses.

It’s important to distinguish between fund structure and investment strategy. Both mutual funds and ETFs can be actively or passively managed, so an ETF isn’t automatically less expensive simply because it’s an ETF.

How Expense Ratios Impact Your Returns Over Time

An expense ratio is an ongoing cost that reduces your investment’s value. While the difference between two expense ratios may seem small, the effect can become more noticeable over long periods because the money used to cover expenses is no longer available to generate potential additional returns.

For example, consider two funds with two different expense ratios — 0.15% and 0.4% respectively — and an initial investment of $10,000. Assume both generate a 5% annual return before expenses and that their expense ratios remain unchanged for 20 years. The fund with a 0.15% expense ratio would grow to approximately $25,785, while the fund with a 0.40% expense ratio would grow to approximately $24,583.

That’s a difference of about $1,202 after 20 years. Although the 0.25-percentage-point difference in expense ratios may seem small, this example shows how even a modest difference in annual fund expenses can add up over longer periods.

How to Research Expense Ratios

Fortunately, you don’t have to work hard to find a fund’s expense ratio. You can find it in a fund’s prospectus, which is available on the fund company’s website. The Securities and Exchange Commission (SEC) requires funds to provide investors with information about fees and expenses, investment objectives, and other important details.

If you’re managing your portfolio through a self-directed investment account, you may be able to use your brokerage’s research tools to look up expense ratios for individual investment funds, or even compare them across different funds.

Average Expense Ratios

Expense ratios have generally declined over the past two decades, according to Morningstar’s 2026 Annual U.S. Fund Fee Study. Morningstar reported that the average expense ratio paid by U.S. fund investors fell from 0.80% in 2006 to 0.32% in 2025.

Expense ratios can vary widely depending on the type of fund, its investment strategy, whether it is actively or passively managed, and whether it invests in domestic or international markets. Here’s a look at typical expense ratios:

Type of Fund	Typical Expense Ratio
Passively managed index fund or ETF	0.02% – 0.25%
Actively managed fund	0.50% – 1.50%+
Specialty or sector fund	0.09% – 2%+
International or emerging market fund	0.30% – 1.75%
Bond fund	0.03% – 0.75%

What’s a Good Expense Ratio?

There isn’t one expense ratio that qualifies as “good” for every fund. Generally speaking, however, a low-cost ETF will have an expense ratio of 0.25% or less, while a low-cost mutual fund is often defined as having an expense ratio of 0.5% or lower. Low-cost bond ETFs may have an expense ratio under 0.2%, while low-cost bond mutual funds may charge 0.4% or less.

When comparing similar funds, a lower expense ratio can be an advantage if the funds have similar strategies, performance objectives, and risk characteristics. But the cheapest fund isn’t necessarily the best choice. A fund with a slightly higher expense ratio may provide a strategy or exposure that better fits your goals.

Looking Beyond Expense Ratios

Expense ratios are an important factor when comparing funds, but they shouldn’t be the only one. A fund with a low expense ratio may not be the best fit if it doesn’t provide the type of investment exposure or strategy you’re looking for.

When evaluating funds, consider factors such as:

•   Investment strategy: You’ll want to make sure the fund’s objective and holdings align with the type of exposure you want.

•   Performance: Compare a fund’s historical performance with its appropriate benchmark, while remembering that past performance doesn’t guarantee future results.

•   Risk: Consider the types of securities the fund holds, its volatility and how much risk you’re comfortable taking.

•   Portfolio turnover: Higher turnover can increase transaction costs and may generate more taxable distributions in a taxable account.

•   Other fees: Check for costs outside the expense ratio, including sales loads, redemption fees, and brokerage-related charges.

•   Fund size and history: A fund’s assets, track record and overall structure may also be relevant when comparing otherwise similar funds.

The Takeaway

An expense ratio is the percentage of a mutual fund or ETF’s assets used to cover its annual operating expenses. The cost is deducted from the fund’s assets rather than billed separately to investors, so you generally won’t see an expense ratio charge on your account statement.

Lower expense ratios can help preserve more of your potential investment returns over time, particularly when comparing funds with similar strategies. However, cost is only one factor to consider. Before choosing a fund, it’s important to review its expense ratio along with its investment strategy, risk, performance, portfolio turnover and other potential fees.

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FAQ

What is an expense ratio in an ETF?

An exchange traded fund (ETF) expense ratio is the percentage of the fund’s assets used each year to cover its operating expenses. These may include management, administrative, and other costs. The expense ratio is deducted from the ETF’s assets rather than charged to you as a separate bill. For example, an ETF with a 0.20% expense ratio would have approximately $2 in annual expenses for every $1,000 invested, assuming the investment balance remained unchanged.

How are expense ratios calculated?

An expense ratio is generally calculated by dividing a fund’s annual operating expenses by its average net assets. For example, if a fund has $2 million in annual operating expenses and $500 million in average net assets, its expense ratio would be 0.40%. Funds disclose their expense ratios in their prospectuses and other investor documents, so you typically don’t need to calculate them yourself.

What expenses does an expense ratio pay for?

An expense ratio can cover a fund’s operating costs, including management fees, administrative expenses, recordkeeping, accounting, legal services, and custodial services. Some mutual funds may also include 12b-1 distribution and shareholder-service fees. The specific expenses vary by fund. A fund’s prospectus provides a breakdown of its annual operating expenses.

Are expense ratios tax-deductible?

Generally, no. Expense ratios are already automatically subtracted from the fund’s assets before you receive any returns or dividends. Because they can reduce your net investment income and ultimate taxable gain at the fund level, claiming them again as a separate deduction on your taxes is not permitted. In addition, the IRS does not allow individuals to deduct miscellaneous investment-related management fees. Keep in mind, however, that this is general background information only and is not intended to serve as tax advice. You should consult your own tax advisor if you have a question requiring tax advice.

Do expense ratios include trading fees?

Generally, no. A fund’s expense ratio covers its annual operating expenses but generally doesn’t include portfolio transaction costs associated with buying and selling securities. These costs are separate from the expense ratio. Funds with higher portfolio turnover may incur more trading-related costs, although the amount varies depending on the fund’s strategy and trading activity.

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