Mutual Fund Accounting

Mutual fund accounting is that an accountancy practice, which is helpful for making

correct financial reporting for mutual funds. In this accounting practice, there are
two main parties who maintain the accounts of mutual funds.

(A) One is investor who invests his money in different mutual funds for reducing his
risk from direct investment in share market. So, for seeing the return and total
investment, he needs to record all his mutual fund investment transactions.

 (B) Second party is Asset Management Company or Trustees of Mutual Funds. This

company gets money from investors under different Capital Units schemes. So, this
is liability for this company. For showing exact position of this liability and for
showing return on this money, it has to maintain its accounts. So, we try to simplify
mutual funds accounting from Asset Management Company or trustee Point of
View.

1. Record the All Transactions relating to Mutual Funds

(A) Recording of Issue of Units of Mutual Fund:  When person buys the units of
mutual funds, it will be the duty of Mutual Fund Company to record it in its books.
For example, any person buys 10 units of Reliance Capital Asset Management Co.
Ltd. It will become the capital of this mutual fund. So, it should be record like the
recording of capital. Bank account will be debit and unit capital will be credit in this
transaction. Every person who will get unit will be Mutual Fund unit holder like any
shareholder.

(B)  Recording of Investments of Mutual Fund Money: If Mutual fund

company invests his money in shares or, its record will be done like purchasing of
any other asset. But we have to mention that specific shares. Suppose, Reliance
capital Asset Management Co. Ltd has invested money in equity share capital. At
that time, Investment in equity share capital account will be debit and bank account
will be credit.
(C) Recording of Fixed Assets, Current Assets and Other Assets: In this world,
every businessman or service provider need office. Mutual Fund Company is just
service provider. It has expert who are interested to increase the capital of unit
holder. So, they need different fixed assets. When they buy, it is the duty of its
accountant to record all the transactions relating to fixed assets, current assets and
other assets.

(D) Recording of Incomes: Mutual Fund Company gets earning from

dividend, interest, derivative transactions and other sources. All incomes should be
recorded like recording of incomes of any other normal businesses.

(E) Recording of Expenses: Main expenses of Mutual Fund Company are

the management fees. Company pays the big salary to experts. Company also pays
money for advertising and marketing. We have to record it.

(F) Recording of Other Transactions: Except above, all the transactions relating to

mutual funds will be recorded on the basis of accounting rules.

2. Calculation of NAV 

NAV means net asset valuation. At any time or daily basis, NAV is calculated. It is
very helpful to calculate the market value of each mutual fund unit. Both Mutual
Fund Company and its investors are interested to know NAV. We can calculate NAV
with following simple formula.

NAV or Market Value of a Mutual Fund Unit

 = Total Investment at Market rate - Total Outside-Liabilities / Total No. of

Units

for Example
3. Financial Reporting for Mutual Funds

SEBI has made regulation 54 under SEBI (Mutual Fund) Regulation 1996. This has
given some guidelines for financial reporting for mutual funds. Following are main
reports and financial statements of Mutual Fund Company

(a) Report of the board of trustees on the operations

(b) Balance Sheet and Revenue Account

Example:

Financial reporting for mutual fund is the part of CA-final's topic “Financial
reporting for Financial Institutions". Because mutual fund is the fund which is
set up under trust. So, all the company who work for management of mutual fund,
it is necessary to maintain the accounts of investors and to show financial reports
for better control on mutual funds.
In simple words, suppose, I invested in one unit of mutual fund. Now it is the duty
of mutual fund trust to tell me what total amount of mutual fund, it has invested?
What is it earned in the form of dividend, interest and capital gain? What amount
will it give to us in the form of earning? What is the net asset value of this mutual
fund? What do balance sheet and revenue account explain about the financial
position and performance? All these questions' answer, we will get from financial
reporting of Mutual Fund.

As per the SEBI's Mutual Fund Regulation 1996

It is the duty of mutual fund trustee company, sponsor and asset management company
to show the financial reporting, so that its investor can know what is the financial
position and performance of fund under mutual fund. 

Following things should be in Financial Reporting for mutual funds.

1. Net Asset Valuation (NAV)

2.
Balance sheet of Mutual Fund

In the balance sheet of mutual fund, assets and liabilities are shown. All the assets
and liabilities are shown on the basis of scheme. For this we can take Kotak
Mahindra Mutual fund's Old balance sheet in which you will see all assets and
liabilities have been classified on the basis of schemes.

3. Revenue Account

Revenue account shows the income and expenditure of mutual fund trust. It should
also make scheme wise. In this revenue account, transfer of reserve and dividend
distribution must be shown.
Journal Entries

Bank A/c Dr

To unit capital A/c

(Being capital raised)

Investment A/c Dr

To Bank A/c

(Being securities purchased)

Bank A/c dr

To investment Ac

(Being dividend received)

Investment Ac dr

To p/l

(Being income recorded)

******** At the end year

1. If value of investment decreases

P/L A/c dr.

To Investment A/C

2. If value investment increases

Unrealized appreciation Ac Dr.

To investment A/c

Mutual funds accounting is a critical matter for the financial system, given the increasing
preference for mutual funds over direct holdings of securities such as stocks and bonds by
the investing public. In particular, many, if not most, individual investors and retail clients
have the majority of their savings in employer-sponsored 401(k) plans, which typically offer
a selection of mutual funds as the investment choices. The end product of mutual funds
accounting is the accurate pricing of these investment vehicles and the correct assignment
of investment income to holders thereof.

These are thus major concerns for the chief financial officers, controllers and operations
managers of mutual fund companies.

Aspects of Mutual Funds Accounting

It encompasses a variety of basic tasks, which may be performed by in-house staff or

outsourced to other providers, such as custodian banks:

 Calculating the value of its investment portfolio on a daily basis. See the
discussion of net asset value (NAV) below.
 Anticipating and recording all income, such as dividends and interest.
 Properly accruing interest on bonds and other similar fixed income securities
held in the investment portfolio.
 Properly amortizing the discount or premium on bond purchases. See the
detailed explanation below.
 Recording all securities transactions, such as buys and sells of portfolio
investments.
 Recording all realized capital gains, both short-term, and long-term, that result
from securities transactions in the fund.
 Recording all inflows and outflows of funds due to purchases and redemptions
of shares by investors.
 Maintaining records of the shares owned, and transactions made, by each
shareholder in the fund.
  Tracking distributions of income and capital gains made to shareholders in the
fund.
In the best mutual funds accounting departments, these activities will be highly automated.
However, some manual input, reviews, and adjustments still may be necessary.

Interpreting the Net Asset Value

The net asset value represents a fund’s market value. When expressed at
a per-share value, it represents a fund’s per unit market value. The per-
share value is the price at which investors can buy or sell fund units.

When the value of the securities in the fund goes up, the net asset value
goes up. Conversely, when the value of the securities in the fund goes
down, the NAV goes down:

 If the value of securities in fund increases, then the NAV of the fund
increases.
 If the value of the securities in fund decreases, then the NAV of the
fund decreases.

Net Asset Value

Often abbreviated NAV, it is the aggregate value of a mutual fund's investment portfolio
divided by the number of its shares outstanding. The standard convention is to calculate
NAV at the end of each trading day, based on the closing prices of all securities held
therein. NAV also takes account of other activities listed above.

Orders to purchase or sell shares of a mutual fund are executed at the closing NAV for the
day if they are received before the market close. If not, they are executed at the closing NAV
for the next trading day.

Bond Amortization

When bonds are purchased at a discount or premium to their par value (that is, at a price
lower or higher than the principal value that will be returned to the investor holding it when
the bond matures), the difference between the purchase price and par value is recorded
over time as an adjustment to the interest income generated by the bond.

The interest income recognized on a bond bought at a discount will be higher than the
actual interest payments received. On a bond bought at a premium, it will be lower. The net
effect is that any discount or premium on the purchase of a bond held to maturity will not
be recognized as a capital gain or loss, but rather as an adjustment to interest income. Bond
amortization is calculated on a daily basis by mutual funds.

Case Study

It is also a prime example of the sorts of engagements that are encountered in the field of
operations consulting. A leading custodian bank offered mutual funds accounting services
to mutual fund companies that already utilized it for the safekeeping of securities. Mutual
funds accounting, in this context, primarily was involved with the daily computation of net
asset value (NAV). The bank and its mutual fund clients were dissatisfied with the timeliness
and accuracy of the NAV calculations being done.

The bank engaged a team of consultants from a Big Four public accounting firm to study
the processes within the mutual funds accounting department and to recommend changes
to improve it. The consulting team from the Big Four firm spent several days observing how
the mutual funds accounting department worked, by shadowing its employees as they
performed their daily tasks. The consultants also interviewed employees and their managers,
to get a better understanding of how they viewed their responsibilities, as well as to assess
how knowledgeable they were about the mutual funds accounting field.

Information Gathering

The consulting team developed detailed flowcharts of processes in the department and
discussed these with management, pointing out where work processes could be improved.
The consultants also suggested improved automation. After getting approval from bank
management, the consultants searched for software vendors that had packages appropriate
to the bank's situation. They then identified one that was willing to customize its existing
system to meet the specifications needed for the bank's unique situation and its mix of
clients.

Process Planning

Next, the consultants drew up these specifications in detail, and conducted extensive testing
of the software as each module was completed, to be sure that calculations were done
properly, and the system was durable and reliable. The user acceptance testing phase took a
number of months and required extreme attention to detail.

When the system was finally completed to specifications, the consulting team oversaw its
installation and implementation, and led the training of employees, remaining on-site until
the bank was comfortable that the new procedures were working well. In all, the project
lasted almost precisely one year, with a team of three consultants on-site at the bank daily.