There's a portion at the end of every mutual fund's annual report that, if you readit closely, just might change your view on “fees,” or, more appropriately, mutual fundoperating costs (commonly called the “expense ratio”). But before Iget to that, let's review the game everyone plays when it comes tofees.

Fees are bad. Retirement savers pay too much in fees. Why,did you know that several white papers even say ordinary workerswill lose anywhere from $150,000 to more than a quarter-milliondollars? That's maybe a third or more of their earnings. All lostto those terrible fees.

Only, the bulk of these “fees” consist of mutual fund operatingcosts. One widely quoted study even includes “trading” expenses(i.e., brokerage commissions incurred when buying and sellingunderlying securities within the mutual fund's portfolio). Here'sthe too-often-ignored mathematical reality: Mutual fund returnsalready incorporate both brokerage commissions and expenseratios.

This is where that “expense table” in the fund's annual reportcomes in. The SEC requires every mutual fund to report both theactual dollar-denominated costs as well as a “hypothetical”calculation which assumes the fund has a 5 percent annual return.What this means is the SEC wants shareholders to compare theexpense ratio of all funds based on this hypothetical 5 percentreturn. The trouble is, that's not what the annual report shows. Itonly shows the actual versus hypothetical expenses paid based onthe expense ratio of the mutual fund.

Think about this. If the actual return exceeds 5 percent, the“actual” expenses paid will be more than the “hypothetical” feespaid. For example, if your fund grew by 10 percent, the actual feespaid will be shown in the table to be twice that of thehypothetical fund.

Do you think the typical shareholder might assume these higher“actual” fees indicate the fund is bad? This is where a closeexamination might cause you to stop worrying about fees and evenlearn to love them. Why? Because in order to suffer those higherfees, you would have had to be blessed with an equally higherreturn.

This is the problem with including the expense ratio (andtrading commissions, for that matter) in any discussion of fees.Since fund returns already incorporate these expenses, to includethese costs as “fees” amounts to double-counting them. It's notjust widely quoted white papers that make this mistake. Even theSEC has inadvertently committed this same error.

Here's what I mean: In the case of the expense tablecalculation, let's say you have $100,000 and you earn 10 percent ona fund with an expense ratio of 2 percent. You'll have earned$10,000, including $2,033 in actual expenses paid. The hypotheticalfund (which rose only 5 percent) would have earned $5,000,including $2,008 in hypothetical expenses paid. So, let me ask youthis question: Would you rather pay $25 more in order to earn$5,000 more, or would you rather save that $25 and earn $5,000less?

Higher “fees.” Gotta love them.