What's the Difference Between Back-End Loads and Redemptions?

So as a result, brokers typically earn more on Class B shares than they do on Class A shares -- and that means that long-term mutual fund shareholders often pay higher sales charges if they hold the B shares. That's particularly true if they would have been eligible for a breakpoint discount on A shares.

Funds' failure to alert investors to this discount is of some concern to the Securities and Exchange Commission. The SEC has brought three enforcement actions (against Morgan Stanley(MWD Quote) and Prudential Securities, included) involving the sales of Class B shares to investors who were not made aware by their brokers that they could purchase Class A shares of the same fund at a discount.

(For the record, fund companies offer share classes bestowed with any one of the 26 letters or even another title altogether. But another common share class is the C-class, or level-load, in which the load remains the same for the length of time you hold the fund. A level load may seem lower than the percentage quoted for A or B shares, but can amount to far more in dollar figures if you hold the fund for a long time.)

None of this is to be confused with the idea of redemption fees, though. Back-end loads are simply sales charges paid when a fund is sold, rather than when it's purchased. It is still, most certainly, a sales charge that the investment manager collects and then pays to the broker on your behalf.

Redemption fees, however, are implemented to mitigate the transaction costs that a fund incurs when investors pull out of a fund shortly after entering it. Unlike load charges, redemption fees get paid directly into the fund. Many funds (including no-load funds) have long had redemption fees to discourage early withdrawal from a fund -- for reasons entirely separate from the recent market-timing debacle.

Funds that are illiquid -- because they hold small stocks, foreign companies, are highly concentrated or simply have limited assets -- often impose a redemption fee on short-term investors since frequent buying and selling wreaks havoc on their portfolio management. (For more on how frequent buying and selling can damage a portfolio's management, see Unraveling the Mysteries of Market-Timing.)