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Spoiler alert: If you’re planning on skipping to the bottom of this article to find out if you should include crypto in your 401(k), you’ll be disappointed. There is no “yes” or “no” answer. What you invest in your qualifying retirement plan depends on your personal circumstances and how comfortable you are with taking risks.
But to get started, think about how you would answer the following three questions:
Is crypto available in my employer’s pension plan?
The title of a Shakespeare play can answer this question: A lot of noise for nothing. The likelihood of your employer offering crypto-based funds in the near future is low. The main reason for all the recent interest in this idea is that in April Fidelity announced that it would be offering a cryptocurrency option to plan sponsors. In other words, employers using Fidelity funds can (starting this year) Choose to add a cryptocurrency offering into their 401(k) plans. Specifically, if the plan sponsor chooses, plan participants would be allowed to allocate a portion of their assets to Bitcoin through an option on their 401(k) investment menu.
This announcement, however, does not mean that many employers will include this option as a choice in their investment basket for plan members. First, there has been a wave of class action lawsuits filed against plan sponsors regarding their 401(k) plans. Typical allegations are excessive fees, inappropriate investment options and insider trading. Given this challenge, why, an employer might ask, should we compound this risk by including risky assets in the 401(k) range? Second, the Department of Labor (DOL) has been very clear that it believes crypto assets are not suitable for most consumers. In an unusual move, the DOL issued guidance warning pension plan trustees to exercise “extreme caution” when considering crypto investment offerings. These guidelines will likely have a chilling effect on many 401(k) plan sponsors.
Another consideration is what “investing in crypto” really means. He could invest in the famous Bitcoin currency, but there are also other cryptocurrencies, such as Dogecoin and Ethereum. It could also mean investing in companies involved in storing, mining, or managing crypto assets. You really need to ask yourself what you are thinking about when researching crypto investments and then consider whether your 401(k) plan has related funds. Due to the novelty of this alternative investment and the risks involved, your choices will likely be very limited.
What is my motivation?
Are you interested in having crypto in your 401(k) because of FOMO (“fear of missing out”)? Investing your retirement funds in an asset class because all the cool kids do it is generally not a good idea. Even the biggest cryptocurrency fans agree that these assets carry significant risk. At a minimum, to invest in such plans, you need to have a general understanding of the difference between cryptocurrency and fiat currency and how blockchain compares to central banking. In other words, know what you’re getting into. This is an exciting new development in alternative investing, but it doesn’t mean that everyone has to sign up or lose.
Let’s say you feel comfortable with how this alternate perk works. A next question might be how would this fit in with the other investments in your 401(k)? Does the asset have a positive, negative or zero correlation with other funds in your portfolio? This question is about whether crypto could improve the diversification of your retirement funds. For example, some investors believe that crypto offers a counterweight to stocks. When the stock market goes down, Bitcoin can benefit. While this negative correlation may end up being true in the long run, the recent drop in Bitcoin’s value that coincided with falling stock prices has raised some eyebrows. Crypto still finds its place in the pantheon of long-term investment options. Before choosing crypto, also understand its place in your investment mix.
I plan to invest in cryptocurrency. Would it be better to hold it inside or outside my 401(k)?
This is a question where the answer may be a little clearer. A 401(k) can be a useful asset location for this type of investment.
The bad reputation that some attribute to cryptocurrency is not so much in the assess of this investment as in the handling of this brand new concept. First, tax law is still developing regarding crypto. In theory though, every time you use crypto as currency, you potentially have a taxable transaction. Pay for a pizza with bitcoin that has appreciated, and you will have to declare your gain. Apart from the simple inconvenience, consumers are not assured that they will have proper accounting of their digital coins. Cryptocurrency is a new industry and many intermediaries are not good at following the tax base.
Another management challenge is storing your cryptocurrency. Stories are legendary of investors who misplaced their crypto wallets and ended up losing millions in the digital ether.
These types of problems largely disappear when holding crypto in a qualified plan. The currency is held for long-term purposes, is not used for day-to-day transactions, and resides in a tax-deferred account. In addition, fiduciary management and oversight is provided by the fund provider and plan administrator, and the plan participant benefits from the legal protections of the Employees Retirement Income Security Act of 1974 (ERISA).
If you’ve done your homework and want to test out cryptocurrency ownership, your 401Ik) might be a good place to start.
The bottom line
To answer the question of crypto in your 401(k), first ask yourself if it’s even available (it probably isn’t) then ask Why (versus Why not)? Why do you want this asset to be part of your qualified retirement portfolio? If the answer is because it’s cool, buy an air conditioner instead. But if you’ve researched this alternative investment and see it complementing your long-term retirement goals, your 401(k) plan may be the right place to make your first foray into the market.
Co-Director, Retirement Income Center, The American College of Financial Services
Steve Parrish, JD, RCP®, CLU®, ChFC®, RHU®, AEP®, is Adjunct Professor of Advanced Planning and Co-Director of the Retirement Income Center at the American College of Financial Services. His career includes years spent as a financial advisor, lawyer and executive of a financial services company. He focuses on the law, estate planning, taxes and financial strategies that can contribute to a successful retirement.
