Jason Levy is Senior Counsel, Great Gray Trust Company. Views of our Guest Bloggers are theirs alone, and not of the Pension Research Council, the Wharton School, or the University of Pennsylvania.
Bipartisan legislation is currently pending in Congress that will give public sector workers the same access to collective investment trusts (“CITs”) afforded for decades to private-sector employees, including in 401(k) plans. This development, covering 403(b) retirement plans for teachers, medical professionals, employees of charitable organizations, and others, makes it timely for retirement plan professionals to learn more about CITs.
Recent Developments
The SECURE 2.0 Act of 2022 includes provisions to enable 403(b) plans to invest in CITs, but additional legislation is needed under securities laws to open the door, which explains the current effort to build support for the CIT cause. Moreover, it is worth mentioning that other historical barriers to access CITs have now been removed over time. For example, minimum asset thresholds to access CITs, which limited them to only the largest retirement plans, have now declined or been eliminated altogether.
In what follows, this blog post highlights two key facts about CITs of note to responsible fiduciaries of participant-directed defined contribution plans.
- CITs Are Often Less Expensive Than Other Pooled Investment Products
Over the past 15 years, retirement plan fiduciaries have become increasingly cognizant of investment expenses and the importance of enhancing retirement outcomes by reducing investment costs. Since CITs are often less expensive than other pooled investment vehicles like mutual funds, this helps explain their popularity in private sector retirement plans in recent years.
This cost differential is mainly driven by differences in who may access CITs and related regulatory differences. By contrast to mutual funds, which are available to tax-qualified investors like retirement plans as well as retail investors, access to CITs is restricted to the former. Consistent with their narrower reach, CITs are subject to a stringent regulatory regime tailored to retirement investors, rather than being subject to extensive disclosure requirements tailored for all retail mutual fund investors (including prospectuses and semi-annual reports). Moreover, CITs are subject to ERISA, and CIT investment managers must satisfy ERISA’s fiduciary obligations and stringent prohibited transaction rules (unlike mutual funds).
Since costs of complying with retirement-investor-specific regulation is often below that of mutual funds, which are marketed to the general public, CITs often are cheaper than mutual funds with similar investing strategies. Morningstar has observed that “When comparing the net expense ratio of CIT tiers and mutual fund share classes of the same strategy, CITs are cheaper 88% of the time” – and that “the average active CIT costs 60% less than the average active mutual fund.”
2. CITs Provide Retirement Plan Fiduciaries With Fulsome Information Needed To Consider CITs In A Fund Lineup
In the past, some have critiqued CITs as being non-transparent, but this is not the case. Beginning in the early 2010s, the US Department of Labor mandated streamlined disclosure requirements providing retirement plan participants the information needed to select between options in plan lineups. These disclosure requirements include having a table identifying (a) the name and type of fund (e.g., large-cap fund, fixed income, balanced, etc.), (b) the fund’s investment performance over standardized periods compared to an appropriate benchmark (e.g. a securities market index), and (c) the fund’s annual expense ratio, which is based on the mutual fund fee table disclosure requirements.
It can be expected that transparent disclosures also will be provided to non-ERISA 403(b) plans that participate in a CIT. Because CIT trustees have an obligation to treat all investors the same with respect to access to information, compliance with the ERISA disclosure standard results in the same information being provided to both ERISA and non-ERISA plans.
These disclosures have also been supplemented with market reporting on CIT performance, costs, and investment objectives. Most significantly, Morningstar began tracking and reporting on CITs from 2007, and it now covers approximately 7,800 CITs. Using this information, retirement plan fiduciaries and their advisers can analyze CITs in comparison to competing investment options, including similarly managed mutual funds.
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Fiduciaries of private sector retirement plans have increasingly selected CITs for inclusion in participant-directed defined contribution plan fund lineups. Given their lower cost and enhanced availability of information about CITs, once legislation is passed providing 403(b) plans with access, 403(b) plan fiduciaries should seriously consider CITs for inclusion in their plan fund lineups.
Views of our Guest Bloggers are theirs alone, and not of the Pension Research Council, the Wharton School, or the University of Pennsylvania.
