An expense ratio is the annual fee that a mutual fund or exchange-traded fund (ETF) charges shareholders to cover management, administrative, and operational costs. It is expressed as a percentage of the fund's average net assets and is automatically deducted from fund returns rather than billed separately. Expense ratios vary widely, from under 0.05% for passive index funds to over 1% for actively managed funds. Over long investment horizons, even small differences in expense ratios can significantly compound and reduce total returns, making this one of the most important factors to evaluate when selecting a fund.