What's the difference between Class A, Class B and Class C mutual fund shares?

QUESTION: What's the difference between Class A, Class B and Class C mutual fund shares? Does it have to do with the loads one is required to pay?

-- Anonymous

ANSWER: As you suspect, the difference lies in the fees and expenses an investor will pay to purchase and own a fund that's sold through an adviser (in other words, a load fund). Precisely which share class is right for which investor depends on how long he or she plans to hold the fund as well as the contribution size.

Investors need to understand the cost structure of the share class their broker or adviser is steering them toward before they invest in a fund. Once invested, there's no going back — and a mistake here means an unnecessary amount of a would-be investment will disappear into someone else's pocket. "You need to understand and ask questions about share classes," says John Gannon, director of individual investor services for the National Association of Securities Dealers (NASD). Otherwise, "the expenses are going to kill you — particularly in this market climate," he says.

The most common classes are A, B and C shares. While the actual fees and expenses can vary by fund family, the structure of these classes tends to be the same. Here's a breakdown:

Class A Shares
These shares typically come with an up-front load that usually ranges from 3% to 5.75%. Painful as this is, Class A shares usually have a relatively low expense ratio, making them attractive to investors who plan to hold a fund for many years, says Professor Albert Fredman of California State University at Fullerton.

Investors should also ask about a fund's "breakpoint," which is a discount offered to A-share investors who are contributing a substantial amount to a fund (typically $50,000 or above). Be careful here: An unscrupulous broker may encourage a client to invest an amount just under the breakpoint discount, ensuring the greatest possible commission, warns Gannon. Discounts may also be offered to investors who already hold shares of other mutual funds in the fund family, as well as to those who commit to making regular or automatic purchases.

Class B Shares
These shares often come with a back-end load (also known as a "contingent deferred sales charge") that fades away over five to seven years, after which the shares usually become A shares. To some investors, a back-end load may be viewed as more attractive than a front-end load, since more of the investor's money is initially invested in the fund.

But the devil is in the details. The catch with B shares is that the expense ratio (which could include a hearty 12b-1 fee) is typically higher than it would be with A shares. For example, the expense ratio of the A shares for the Pimco Total Return (PTTAX) bond fund is 0.90% (with a 4.5% front-end load) while with the B shares (PTTBX) it's 1.65% (with a maximum 5% back-end load that declines over the first six years of ownership). So even if an investor manages to avoid the load by holding the fund until the back-end load disappears, he or she will pay in other ways. For this reason, investors with a substantial amount to invest would most likely be better off taking advantage of the breakpoint discounts offered by A shares, says Coral Gables, Fla.-based certified financial planner Harold Evensky.

Class C Shares
These shares often carry what's known as a "level load," which means steady fees "until the end of time," says Christopher Davis, a fund analyst at Morningstar, an investment-research firm. Usually there's a penalty for investors who pull out during the first year or two, but the real money maker here is the expense ratio, which is also higher than the A shares. Unlike the B shares, however, C shares typically don't convert into A shares for long-term investors, making them a horrendous choice for those who plan to hold a fund for years and years.

The other common share class investors may stumble across is institutional shares -- which are distinguished by various different letters, often I or Y, says Davis. These tend to have very low expense ratios, and very high minimum investment requirements (often $250,000 or more). And fund families may offer still more classes targeted at specific investors.

So how do investors wade through this alphabet soup? Perhaps the easiest way is to avoid the class conundrum altogether by going with no-load funds. At SmartMoney.com we believe no-load funds are almost always the way to go, since there are fewer fees to eat into returns. But even in the no-load realm, investors should keep an eye out for 12b-1 fees. A true no-load fund has no 12b-1 fee, but technically, a fund can still be classified as no-load as long as its 12b-1 fee is 0.25% or less.

Of course, there are always exceptions. Some load funds have consistently beaten their no-load peers, making them worth the added expense. And those who feel most comfortable investing through a trusted broker or financial adviser may be willing to pay for valuable guidance. That said, most fee-only financial planners will generally steer their clients toward no-load funds, so cost-conscious investors may want to consider finding a good CFP to help them with their investment selections.

Investors choosing to invest in a load fund need to do their due diligence. Fortunately, that's not too hard. Investors should also feel comfortable asking their adviser to explain the cost structure of a fund they are recommending.

But that's no substitute for taking a look at the fund prospectus, which will include detailed information on the cost structure of the various share classes. Many fund families now enable investors to download prospectuses from their Web sites. You can also request one by mail via the company's customer service line.