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FASB Drops Proposal to Include Transaction Costs in Expense Ratio

On June 8, 2011, the Financial Account Standards Board (FASB) voted drop a portion of its May 2010 proposal that, if adopted, would have required investment companies to include portfolio transaction costs in their expense ratios.  In a May 2010 FASB Exposure Draft, the FASB had proposed changes for the accounting standards for financial instruments which would have dramatically altered the presentation of fund expense information.  Currently, investment company transaction costs are included in the purchase/sale price of a security. That is, transaction costs are considered part of the cost of trading each portfolio security rather than a recurring operating expense of the fund.  The FASB proposed to treat securities transaction costs and fees (including brokerage fees) as an expense in calcluating net income, which further would result in brokerage costs being included in a fund's expense ratio.  According to the FASB's proposal, "transaction costs should be reflected as current period expenses rather than capitalized and deferred because such costs do not directly relate to the financial asset or liability's fair value."  

The FASB received a large number of comments critical of this part of the proposal.  The main concern was that including transaction costs in a fund's expense ratio would cloud the expense ratio unnecessarily, making it practically useless as a measure of fund expenses and nearly impossible to compare across funds.  For example, funds with high portfolio turnover ratios would have very high expense ratios as compared to funds that buy-and-hold, without any relation to the actual operating expense of either fund.

The full text of the FASB's May 2010 Exposure Draft is available at: http://www.fasb.org/cs/BlobServer?blobcol=urldata&blobtable=MungoBlobs&blobkey=id&blobwhere=1175820761372&blobheader=application/pdf  

The minutes of FASB's June 8th meeting are available at:  http://www.fasb.org/cs/ContentServer?site=FASB&c=Document_C&pagename=FASB%2FDocument_C%2FDocumentPage&cid=1176158622418