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The popularity of investments in digital assets, including cryptocurrency, has reached record highs, increasing from 66 cryptocurrencies in 2013 to the over 10,000 currently available. It is fair to assume that the growth of these investment types has captivated the market’s attention, partly because of the potential return on investment. Although many cryptocurrencies are volatile, others, including BitCoin, Ethreum, and Solana, have posted strong returns. In fact, cryptocurrency returns have averaged 20 times greater return than investments in traditional currency or other equity investments.
As the attraction grows, many firms have started to offer direct digital currency investment products to 401(k) plans. This has caught the attention of the Department of Labor (DOL), which discourages plan sponsors from offering such investments to plan participants. Last week, the DOL issued Compliance Assistance Release No. 2022-01 (“the Release”) warning plans about the impact on fiduciary responsibilities that such investments may carry. The Release focuses on the need to ensure the prudence of investment options, assessment of alternatives, and outlines why the DOL does not consider cryptocurrency a prudent option. To help clients, prospects, and others, JLK Rosenberger has provided a summary of the key details below.
Risks of Cryptocurrency Investments
In the Release, the DOL discourages plans from offering these investments due to lack of regulation and significant fraud, theft, and loss risks. The agency’s concern is based on the following factors, including:
- Speculative & Volatile Investments – The SEC has issued a statement outlining the highly speculative nature of cryptocurrency investments. This is driven by extreme price volatility, unclear asset valuation methods, the amount of fraudulent trading reported, and other incidences of illegal behavior. The volatility associated with these investments can have an adverse impact on participants, especially those close to retirement.
- Challenges to Informed Decision Making – These investments are often promoted as innovative and offer the potential for outrageous returns. This makes it easy for inexperienced plan participants to make investment decisions without a true understanding of the risks and potential for loss. Concurrently, when such investments are offered in a plan, there is an unstated assumption that the investment has been vetted and approved by investment experts. This can reinforce such risky investment choices.
- Custodial Issues – These investments are not held like other plan assets in trust accounts, but rather as part of a digital wallet. Loss of credentials, hackers, and bad actors can result in asset loss. This can create an additional layer of issues for plan fiduciaries.
- Valuation Issues – There is also concern about the reliability of digital currency valuations. At a minimum, the task is complex and challenging, lacking a sound valuation method. Beyond this, market intermediaries may not adopt consistent accounting treatment and not be subject to the same reporting requirements as intermediaries with more traditional investment offerings.
- Evolving Regulatory Environment – The reality is that the regulatory environment is in a constant state of flux. This means some may be operating outside the existing framework or simply ignoring them altogether. For those determining whether to include cryptocurrency as a plan investment, it will be necessary to analyze how regulatory requirements may apply to issuance, investments, trading, and how these can impact participant investments.
The Release clarifies that the Employee Benefits Security Administration (EBSA) will launch an investigative program designed to carefully assess plans that offer cryptocurrency investments. There is also language about potential enforcement actions that could be taken to protect plan participants when deemed necessary.
We’re here to help
It is clear from the recent guidance that plan sponsors should carefully consider whether to offer cryptocurrency investments as a plan investment option. Given the implications to fiduciary responsibility, it may be best to avoid including these options as a plan investment. If you have questions about the information outlined above or need assistance with your 401(k)-plan audit, JLK Rosenberger can help. For additional information, call us at 972-331-5917, or click here to contact us. We look forward to speaking with you soon.