Combination Privileges in Mutual Funds: Maximizing Breakpoint Discounts

4.2.6.3 Combination Privileges

Combination privileges in mutual funds present a strategic opportunity for investors to optimize their investment costs by leveraging their entire portfolio within a fund family. This section will provide a comprehensive understanding of combination privileges, including how they work, the types of accounts that can be combined, and the steps investors need to take to ensure they receive the appropriate breakpoint discounts.

Understanding Combination Privileges

Combination privileges allow investors to combine their holdings across multiple mutual funds within the same fund family to reach the investment thresholds known as breakpoints. Breakpoints are specific investment levels at which the sales charge on mutual fund purchases is reduced. By reaching these levels, investors can significantly lower the overall cost of their investments.

What Are Breakpoints?

Before delving deeper into combination privileges, it is essential to understand the concept of breakpoints. Breakpoints are tiered investment levels set by mutual fund companies that offer reduced sales charges as the investment amount increases. For example, a mutual fund might charge a 5.75% sales load on investments under $50,000, but reduce the load to 4.5% for investments between $50,000 and $100,000, and further reduce it for larger investments.

How Combination Privileges Work

Combination privileges enable investors to pool their investments across different mutual funds within the same fund family to reach these breakpoint levels more quickly. This pooling can include various types of accounts, such as individual, joint, or retirement accounts owned by the investor or their immediate family members.

Types of Accounts Eligible for Combination

1. Individual Accounts: Investments held in the investor’s name can be combined.
2. Joint Accounts: Accounts shared with others, such as a spouse or partner, can be included.
3. Retirement Accounts: Individual Retirement Accounts (IRAs) and other retirement accounts owned by the investor or family members are eligible.
4. Custodial Accounts: Accounts set up for minors under the Uniform Gifts to Minors Act (UGMA) or Uniform Transfers to Minors Act (UTMA) can also be considered.

Example Scenario

Consider an investor, Alex, who has the following investments within the same mutual fund family:

• $20,000 in an individual account.
• $15,000 in a joint account with their spouse.
• $10,000 in an IRA.

By combining these accounts, Alex’s total investment in the fund family is $45,000. If the breakpoint for a reduced sales charge is $50,000, Alex can add an additional $5,000 to any of these accounts to qualify for the reduced sales charge, thereby lowering the cost of future investments.

Benefits of Combination Privileges

1. Accelerated Breakpoint Achievement: By pooling investments, investors can reach breakpoint levels faster, reducing the overall sales charges paid.
2. Cost Efficiency: Lower sales charges mean more of the investor’s money is working for them, increasing potential returns.
3. Flexibility: Investors can strategically allocate funds across different accounts and funds within the same family to optimize their investment strategy.

Steps to Utilize Combination Privileges

1. Verify Eligibility: Ensure that all accounts and investments are eligible for combination. This typically includes accounts owned by the investor and their immediate family members.
2. Inform the Fund or Broker: Investors must notify their mutual fund company or broker of their intent to combine accounts. This step is crucial to ensure that the appropriate discounts are applied.
3. Maintain Documentation: Keep detailed records of all accounts and investments being combined. This documentation can be essential if there are any discrepancies or questions about eligibility.
4. Regularly Review Investments: Periodically review the combined investments to ensure that they continue to meet the breakpoint criteria and to adjust as necessary for changes in investment strategy or family circumstances.

Common Pitfalls and Challenges

1. Lack of Awareness: Some investors may not be aware of the combination privileges available to them, missing out on potential savings.
2. Complexity in Tracking: Managing multiple accounts and ensuring they are correctly combined can be complex. Investors should use tools or seek professional advice to manage this effectively.
3. Changes in Account Ownership: Life events such as marriage, divorce, or the birth of a child can affect account ownership and eligibility for combination privileges.

Regulatory Considerations

Investors should be aware of the regulatory requirements and disclosures related to combination privileges. Financial advisors and brokers are obligated under FINRA rules to inform clients about breakpoint opportunities and to ensure that clients are receiving the most favorable sales charge reductions available. Failure to do so can result in regulatory action and penalties.

Practical Example and Case Study

Case Study: The Smith Family

The Smith family consists of John and Jane, who have three children. They have investments in several mutual funds within the same fund family. By utilizing combination privileges, they can combine the following accounts:

• John’s individual account: $30,000
• Jane’s individual account: $25,000
• Joint account: $40,000
• Custodial accounts for the children: $10,000 each

By combining these accounts, the Smiths have a total of $125,000 in investments, allowing them to reach a higher breakpoint level and reduce their sales charges significantly.

Best Practices for Investors

• Stay Informed: Regularly review mutual fund statements and communications to stay informed about breakpoint levels and combination privileges.
• Consult with Financial Advisors: Work with a knowledgeable financial advisor who can provide guidance on maximizing combination privileges and ensuring compliance with regulatory requirements.
• Plan for Future Investments: Consider future investment plans and how they might impact breakpoint levels. Strategic planning can help investors continue to benefit from reduced sales charges over time.

Conclusion

Combination privileges offer a valuable opportunity for investors to reduce the cost of investing in mutual funds by strategically combining their investments across multiple funds within the same family. By understanding how these privileges work and taking the necessary steps to utilize them, investors can enhance their investment efficiency and achieve their financial goals more effectively.

For more information on breakpoints and combination privileges, refer to FINRA’s Mutual Fund Breakpoints: Are You Eligible for Load Fund Sales Charge Discounts?.

Series 6 Exam Practice Questions: Combination Privileges