The Tax Advantages of Collective Investment Trusts: A Fiduciary Resource for Plan Committees

By Suzanne Long, Sr. Operations Analyst at Great Gray 

Introduction: Why Tax Treatment Matters in Plan Design

Collective Investment Trusts (CITs) are pooled investment vehicles available to certain tax-qualified retirement plans like 401(k)s (they cannot be used in IRAs). CITs aggregate plan assets into professionally managed investment strategies. CITs are purpose-built for certain tax-qualified retirement plans, providing a number of tax efficiencies that specifically benefit investors saving for retirement.

Saving within a tax-qualified retirement plan is one of the most effective ways to build a retirement nest egg. In traditional accounts, contributions are generally made on a pre-tax basis, with contributions and earnings tax-deferred until distribution and subject to required minimum distributions (RMDs). In Roth accounts, contributions are made on an after-tax basis, but qualifying withdrawals of earnings may be tax-free and are generally not subject to RMDs. Within that framework, the tax efficiencies that CITs enjoy — compared to mutual funds — can further enhance participant outcomes by reducing tax drag, which can generate a performance drag. Over time, even small structural advantages can compound into meaningful differences in account balances.

Core Tax Advantages of CITs

1. Federal Income Tax Exemption 

CITs structured as ’81-100 group trusts’ derive their tax-exempt status by satisfying IRS requirements under Rev. Proc. 81-100.¹ This exemption forms the legal foundation for CITs’ tax treatment and enables the competitive advantages described in Sections 2 and 3. While mutual funds held in tax-qualified retirement plans generally share the same tax-deferral benefits as CITs, satisfying 81-100 requirements is what enables CITs to access favorable foreign tax treaty treatment and avoid mandatory annual capital gains distributions. Key requirements include:

• Assets must be held exclusively for the benefit of participants and beneficiaries.
• Participation must be restricted to eligible retirement plans (e.g., qualified defined contribution and defined benefit plans, governmental plans) and other group trust-retiree benefit arrangements recognized under the rulings.
• The trust must be maintained by a bank or trust company acting as fiduciary.
• No part of income or corpus may inure to the employer (i.e. no reversion).

2. Foreign Dividend Withholding Tax Optimization

Where CITs offer meaningful advantages over mutual funds is in the treatment of foreign dividend withholding taxes. This becomes of particular importance for foreign or international funds or even a domestic fund that invests outside the US.  CITs may be treated under many foreign tax treaties similarly to pension funds or tax-exempt group trusts, which can lead to reduced or zero withholding on dividends from foreign issuers. Key points:

• State Street Global Advisors estimates that ERISA-eligible CITs can achieve a ~16 basis point advantage annually in foreign dividend withholding over comparable mutual funds when benchmarked to the MSCI ACWI ex-US IMI Index.²
• Mutual funds, because they are regulated investment companies (RICs), are treated as U.S. corporations for foreign tax purposes and receive standard U.S. corporate tax rates outlined in treaties. The withholding rate is generally 15%.³ CITs, by contrast, may be treated as pension trusts in some countries, allowing them to qualify for preferential treaty rates.
• However not all jurisdictions grant treaty relief automatically. Some require documentation (e.g. IRS Form 6166), proof of beneficial ownership, disclosures about the underlying plans etc. Failures in documentation or mismatched treaty definitions can limit or delay relief.⁴

Recent Developments in Treaty Access

Progress continues in improving treaty access for 81-100 Group Trusts. A notable example is Switzerland, where the IRS and the Swiss Federal Tax Authority (SFTA) reached a simplified arrangement in late 2024 (IRS Switzerland Competent Authority Arrangement, 2024).⁵ Prior to this update, SFTA documentation demands were burdensome—requiring plan-level tax certifications, meaning every plan participant in the CIT had to certify its eligibility in order for the CIT to be eligible, which in any large CIT becomes administratively burdensome and undercuts the tax savings. The current agreement includes a formal procedure for creating a simple, detailed list of valid plan participants, allowing the SFTA to easily look through the fund to the underlying pensions. This is now yielding successful claims for the full value of Swiss tax withheld.

In Switzerland specifically, mutual funds function as corporations subject to a 15% withholding tax rate, while 81-100 Group Trusts are eligible to qualify for a 0% withholding tax rate under the U.S.-Switzerland tax treaty⁶—representing a meaningful advantage for participants invested in Swiss equities because their Swiss holdings are not subject to a 15% taxation on. Note that Switzerland does not impose withholding tax on capital gains for any investor, so the CIT advantage in Switzerland is specific to dividend income.

Several other markets offer similar favorable treatment of 81-100 Group Trusts. The Netherlands provides a 0% withholding tax rate on dividends to qualifying U.S. pension trusts under Article 35 of the U.S.-Netherlands tax treaty.⁷ Finland similarly provides a 0% withholding tax rate on dividends to pension funds under its treaty protocol with the United States, which was specifically designed to eliminate withholding taxes on cross-border dividend payments to pension funds.⁸

Great Gray Trust Company maintains active, collaborative working relationships with international tax partners and is committed to closely monitoring international developments and actively engaging with tax authorities and industry bodies to ensure tax efficiency. We remain optimistic about the future of 81-100 Group Trusts and their ability to take advantage of reductions or elimination of withholding taxes.

Illustrative Example: Compounding Tax Savings Over Time

Consider a participant investing $10,000 annually in an international equity strategy over 30 years, dependent on asset mix and jurisdiction:

In this case, the difference of only 0.33% in total cost (represented by tax withholding and expense differences) leads to $54,178 more in accumulated value in a CIT over 30 years, assuming similar investment strategy, risk and gross returns of a mutual fund.

*Foreign withholding drag figures (0.30% for mutual funds; 0.14% for CITs) are illustrative estimates representing a blended average across foreign markets, based on SSGA research benchmarked to the MSCI ACWI ex-US IMI Index (see source 2). Actual withholding rates vary by country, fund strategy, and asset mix. This example is for illustrative purposes only and does not represent results for all funds or all foreign markets. **There are many foreign markets where the performance drag will be reduced, specifically in markets such as Belgium, Canada, Japan, and Switzerland, where the withholding rate is 0% for CITs.

3. Elimination of Annual Capital Gains Distributions

Mutual funds under U.S. securities law must distribute substantially all of their realized income and net capital gains to shareholders each year. In contrast:

• A properly structured CIT with exempt status does not generate taxable realized income or capital gain distributions in the same way for participating plan investors. Gains are retained within the trust until withdrawals by the plan.
• This means no forced annual income and capital gains distributions, no associated cash drag, and no forced portfolio sales to raise cash to satisfy required distributions to investors, which is required for mutual funds.
• CITs can be managed more efficiently since, unlike a mutual fund, all CIT investors enjoy tax-deferrals. By contrast, a mutual fund can be used for both qualified plans and non-qualified accounts, resulting in a need to manage taxation from income, gains, or losses from portfolio sales.

4. Lower Expenses

The exempt status and trust structure of CITs often allow for reduced operational and administrative burdens compared to mutual funds. This translates directly into reduced operational costs that benefit participants through lower expense ratios. Examples include:

• No SEC registration under the Investment Company Act of 1940, since CITs serve institutional retirement plans rather than retail investors. This lowers regulatory compliance, disclosure, prospectus costs. Because mutual funds are sold directly to retail investors, they are subject to extensive required filings including quarterly filings (Form N-PORT, semi-annual Form N-CSR), whereas CITs have significantly fewer reporting requirements since they are sold to non-retail, retirement plans and their fiduciaries (who choose whether to select them as investment options in the plans).
• Reduced tax accounting burdens: fewer required tax filings, fewer Form 1099/1099-DIV issues, simplified cost basis tracking. Because there is no SEC filing requirement, CITs have one single yearly filing with the Department of Labor (Form 5500) rather than the multiple quarterly filings required of mutual funds.
• Savings in audit, legal, trust-document compliance related to tax/treaty documentation.

According to Morningstar research, when comparing net expense ratios of CIT tiers and mutual fund share classes of the same strategy, CITs are cheaper 88% of the time.¹⁰ For actively managed strategies, the average CIT costs 60% less than the average actively managed mutual fund¹⁰—savings driven significantly by reduced tax-related administrative burden.

Conclusion: Tax Efficiency as a Fiduciary Lever

1. Lower costs because CITs serve a different regulatory market than mutual funds, avoiding the costly retail disclosure requirements
2. Tax efficiencies in foreign developed markets that result in even greater cost savings for participants relative to corresponding mutual funds
3. Tax efficiencies at the fund level since CITs are not subject to mandatory requirements to distribute substantially all of their realized income and capital gains.

These benefits manifest through:

• Lower administrative costs due to serving institutional-only markets
• Reduced foreign dividend withholding via treaty treatment
• Elimination of mandatory annual income and capital gains distributions

These are not marketing exaggerations but codified, documented features that reduce “tax drag” on participants’ returns. For plan fiduciaries, these are material cost factors that should be evaluated when comparing investment options with the same investment manager and strategy—alongside considerations of risk, diversification, liquidity, and governance.

This content is provided for educational and informational purposes only and does not constitute, and should not be construed as legal, tax, investment, or financial advice. The information presented is general in nature and may not reflect the most current legal or regulatory developments. Plan fiduciaries have specific obligations under ERISA and the Internal Revenue Code, and should consult with qualified legal, tax, and investment professionals regarding their particular circumstances and responsibilities. Great Gray Trust Company does not provide legal or tax advice.

Sources

1. IRS, “Changes to 81-100 Group Trust Rules” (Rev. Rul. 81-100, Rev. Rul. 2011-1, Rev. Rul. 2014-24), https://www.irs.gov/retirement-plans/changes-to-81-100-group-trust-rules
2. State Street Global Advisors, “CITs Can Reduce the Tax Burden,” https://www.ssga.com/us/en/institutional/insights/cits-can-reduce-the-tax-burden
3. PwC, “United States – Corporate – Withholding Taxes,” https://taxsummaries.pwc.com/united-states/corporate/withholding-taxes
4. WTAX Blog, “Barriers to Treaty Access for 81-100 Group Trusts,” https://blog.wtax.co/wtax-blog/barriers-to-treaty-access-for-81-100-group-trusts
5. IRS, “Switzerland Competent Authority Arrangement – Pension Plans Tax Treaty Benefits” (2024), https://www.irs.gov/pub/irs-lbi/switzerland-caa-pension-plans-tax-treaty-benefits-2024.pdf
6. EY, “Switzerland and United States Sign New Competent Authority Arrangement” (2024), https://www.ey.com/en_ch/technical/tax-alerts/switzerland-and-united-states-sign-new-competent-authority-arrangement-with-implications-for-us-81-100-group-trusts
7. IRS/Tax Notes, “U.S. and Dutch Agree on Tax-Exempt Trusts Eligible for Treaty Benefits” (2000), https://www.taxnotes.com/research/federal/other-documents/irs-news-releases/u.s-and-dutch-agree-on-tax-exempt-trusts-eligible-for/10hk4
8. U.S. Department of Treasury, “Protocol Amending Tax Convention with Finland” (2006), https://home.treasury.gov/news/press-releases/js4298
9. U.S. Senate Executive Report 110-2, “Tax Convention with Belgium” (2007); Protocol Amending the U.S.-Germany Tax Convention, Treaty Document 109-20 (2006)
10. “2023 Retirement Plan Landscape Report: An In-Depth Look at the Trends and Forces Reshaping U.S. Retirement Plans,” Morningstar Center for Retirement & Policy Studies (April 2023)