Expense Ratios Explained: What 0.05% vs. 0.50% Costs Over Time

Imagine you are comparing two investment funds. For example, one has an expense ratio of 0.05%, while the other charges 0.50%. Both percentages look small, and the difference is less than one percentage point, so it may seem too minor to matter. Yet 0.50% is ten times 0.05%.

On a $10,000 balance, the first-year costs would be about $5 and $50. That $45 gap may not feel important. Over several decades, however, fees also reduce the money that stays invested and keeps growing. In this lesson, we turn those percentages into dollars, look at what real funds charge and show how to avoid the opposite mistake: picking a fund only because it is the cheapest.

What an expense ratio actually means

An expense ratio is the percentage of a fund’s assets used each year to pay its running costs. According to the SEC’s Investor.gov, it covers management fees, certain distribution or service fees and other operating expenses. The basic estimate is:

Annual fund cost = investment balance × expense ratio

For example, on $10,000, 0.05% (0.0005) is $5 a year and 0.50% (0.005) is $50. However, you will not receive a separate bill. Instead, the fund takes its costs from its assets throughout the year, so they show up as a slightly lower value and return. Also, the fee applies even when the fund loses money: if the market falls 8%, the fund still charges its costs.

Why tiny percentages fool us

Fees are partly a math problem and partly a perception problem. Because 0.05% and 0.50% both sit close to zero, our brains tend to file them as “basically nothing”. In reality, one is ten times the other, so turning percentages into dollars makes the gap much easier to see.

Research also backs this up. In an experiment published in the Journal of Banking & Finance, participants switched to cheaper pension plans faster when fees were shown in dollars rather than as percentages, which caused more confusion. That is why every example in this lesson shows both.

“More expensive must be better”

In most of life, a higher price often signals better quality, so we tend to carry that shortcut into investing. A study in the Journal of Consumer Psychology found that people rely heavily on price to judge quality and overestimate how closely the two are linked. With funds, however, a higher fee does not prove more skill. In fact, as Investor.gov points out, a more expensive fund has to perform better just to give you the same return as a cheaper one.

“Zero” does not always mean free

Some funds advertise a 0.00% expense ratio, such as the Fidelity ZERO funds. That describes one cost, but there can still be others, like trading spreads, account fees or advisory fees. So treat “zero” as one line in the bill, not the whole bill.

What real funds charge

Fortunately, industry averages have fallen a lot. According to the Investment Company Institute (ICI), the average expense ratio for equity mutual funds was 0.40% in 2025, down from about 1% in the 1990s. Index funds are much cheaper than actively managed ones:

Source: Investment Company Institute, asset-weighted averages for 2025.

Funds that track the S&P 500, an index of about 500 of the largest U.S. companies, are a clear example. Because they all follow the same index, their holdings are almost identical, so the fee is one of the few real differences:

Expense ratios as published by the fund companies in 2026. They can change, so check the current prospectus. This is not a recommendation to buy any fund.

As NerdWallet notes, VOO and IVV charge about one-third of what SPY charges. On $10,000, that is roughly $3 versus $9 a year. The gap is small here, which shows an important point: once fees are already very low, other factors, such as your broker or the type of account, may matter more. If you want to compare ETFs and mutual funds in more detail, read ETF vs. Index Mutual Fund.

What 0.05% and 0.50% cost in one year

Original Money Behaves calculation. Assumes the balance stays the same for the whole year.

However, one year only shows part of the cost, because it does not include the future growth that money could have earned.

How fees grow over time

Compounding means that gains can produce more gains. In contrast, fees work in the opposite direction: every dollar taken as a fee is a dollar that can no longer grow. Consider two funds that start with $10,000, hold the same investments, earn the same 7% a year before fees and receive no new money:

Original Money Behaves calculation. Hypothetical 7% yearly return before fees, not a forecast. Real markets go up and down.

The $22,810 difference after 40 years is not just a pile of $45 charges. Instead, it includes all the growth that the fee money could have earned. That is why a percentage that looks tiny can become a large number over a working lifetime.

Try it with your own investment

Use the calculator below to see how two expense ratios could change the value of the same investment. It is especially useful for comparing two funds that do the same job, such as two S&P 500 funds, or the options in your 401(k).

How to use it: enter how much you have invested now, how much you add each month and for how many years. Then enter an expected yearly return before fees, for example 7%, and the expense ratios of the two funds. You can find each fund’s expense ratio on its fact sheet or in your account. The results update as you type.

Try adding even $200 a month. Because the fee applies to a growing balance, the gap between the two funds grows much faster.

What the expense ratio does not include

The expense ratio is important, but it may not be your full cost of investing. For example, other costs can include:

Check every layer of cost, not just the fund.

For example, a $50,000 401(k) holding a 0.05% fund could also have a 0.20% plan fee. In that case, the fund would cost about $25 a year, but the total would be about $125. Likewise, a target-date fund that holds other funds already includes their costs in its total, so you do not need to add them again. Learn more in What Is a Target-Date Fund? and 401(k), IRA and Brokerage Accounts.

Gross vs. net expense ratio

Some fund documents show two numbers. The gross expense ratio is the cost before any fee waiver, while the net ratio is what you pay after it. For instance, a fund could show 0.40% gross, a 0.15% waiver and 0.25% net. The net figure is the better guide for today, but a waiver can be temporary, so check when it ends. Also, make sure you are comparing the same share class, because different classes of the same fund can charge different fees.

When a lower fee really is an advantage

Expense ratios are most useful when you compare funds that do the same job. For instance, if two funds track the same index with similar holdings, as S&P 500 funds do, the cheaper one usually leaves more of the return for you.

On the other hand, the comparison breaks down when funds do different things. A 0.05% U.S. stock index fund and a 0.50% international small-company fund are not substitutes, so picking between them only on fees would ignore what each one owns and how risky it is. In other words, first choose what you want to own, and then use fees to choose between similar options. If you are still deciding what to invest in, start with Stocks, Bonds, Mutual Funds and ETFs.

Finally, avoid switching too often. Moving from one fund to another to save a few hundredths of a percent can trigger taxes, trading costs or time out of the market, which may cost more than you save.

Next time you compare two funds, check this

Keep learning: Saving vs. Investing, ETF vs. Index Mutual Fund and How APY Works.