New Crypto Guidance Rewrites Rules on 401(k) Brokerage Windows

New cryptocurrency guidance from the U.S. Labor Department threatens to upend the way regulators treat workplace retirement plans that allow participants to trade individual stocks and bonds on their own.

Under that guidance, which the DOL issued last month, employers could be responsible for risky crypto trades their workers make in workplace 401(k)s. The DOL’s employee benefits enforcement agency will launch what it’s calling “an investigative program” that requires plan officials to “square their actions with their duties of prudence and loyalty” if they allow crypto investments in self-directed accounts, according to the guidance.

Brokerage windows historically have been mostly off-limits to DOL regulators—the product of an unofficial covenant between the government and plan sponsors that keeps employers off the hook for poor investments and lets workers steer their own investments inside tax-advantaged plans.

That could change with the Labor Department’s new playbook for cryptocurrency in 401(k)s.

“This is a very damning statement about brokerage windows,” said Lisa Tavares, a partner at Venable LLP and former IRS attorney.

Duty to Monitor?

The Employee Benefits Security Administration until recently hadn’t explicitly said whether plans had a duty to monitor individual investments within a brokerage window.

Regulators in 2012 backtracked guidance that would have classified brokerage windows as designated investment alternatives—mutual funds or exchange-traded menu options that require strict oversight. A civilian advisory council recommended little to no change in the brokerage window review or disclosure process after a year-long review in 2021.

Attorneys advised plan sponsors only to consider the legal pitfalls of adding a brokerage window into a plan and to avoid meddling in the type of investments participants were buying or selling inside that window. Otherwise, plan fiduciary decision-makers risk being held personally liable for bad investments they’ve improperly monitored, a tenet of employee benefits law.

“I think the decision to put in a brokerage window in the first place is a fiduciary decision, but we have thought that what is or is not in the brokerage window did not require fiduciary oversight, so you need to be very careful,” Tavares said.

Volatile cryptocurrency assets too wieldy for plan sponsors to vet recently have appeared in specially-designed brokerage windows. Low-cost 401(k)-provider ForUsAll Inc. has partnered with Coinbase Global Inc., the largest U.S. digital currency exchange platform, to offer an in-plan brokerage window that allows employee investors to transfer up to 5% of their nest eggs directly into more than 50 different cryptocurrencies.

ForUsAll CEO Jeff Schulte said his company spoke at length with the Labor Department as it designed the program to set guardrails that protect participants from market volatility, and plan sponsors from legal trouble.

“It is a volatile asset class,” Schulte told Bloomberg Law. “There’s no denying that. But a small amount can insulate your savings.”

‘Significant’ Change

Last month, the agency unexpectedly rewrote the rules for how employers may have to operate brokerage accounts, said Lynn Dudley, senior vice president for global retirement and compensation policy at the American Benefits Council.

The benefits agency’s guidance on cryptocurrency urged plan sponsors to consider the volatility of digital investments. But tucked into the last paragraph was a warning to plan sponsors that offer cryptocurrency investments in their plan lineup or in brokerage windows.

Fiduciaries who had made it a point not to look too carefully into what securities their participants were buying or selling in brokerage windows were put on notice to do so—at least for crypto investments.

“This is really, really significant,” Dudley said. “There can be thousands of individual investments within a brokerage window; how can a plan sponsor be expected to monitor all of them?”

Brokerage windows alone have never absolved fiduciaries of their duties of prudence and loyalty to plan participants, according to Grant Vaught, a Labor Department spokesman. In its 2012 revised guidance, the employee benefits agency said those duties extended to “taking into account the nature and quality of services provided in connection with” the brokerage window.

EBSA’s new guidance doesn’t reflect a policy reversal, Vaught said.

“The Department is especially concerned about the aggressive marketing of cryptocurrency to 401(k) plans and expects its investigative program to reflect these concerns,” he said in a statement provided to Bloomberg Law.

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Mixed Rulings

The Labor Department’s measure of fiduciary investment control historically has been “the act of limiting or designating investment options,” according to a 1992 regulation on 401(k) plan designs.

By negative implication, not designating or limiting investments within a brokerage window absolves fiduciaries of their fiduciary duty.

“Brokerage windows have simply not been about the underlying investments,” said David Levine, a principal and co-chair of the plan sponsor practice at the Groom Law Group, Chartered. “That seems to be where plan sponsors are at and where the Department of Labor now disagrees with them.”

The courts have struggled to parse that disagreement as well. In a 2020 opinion, a federal judge in Massachusetts was “hesitant to state unequivocally that there either is, or is not, a fiduciary responsibility to monitor self-directed brokerage accounts,” in the absence of Labor Department regulation.

Banner Healthcare Services Inc. workers sued plan officials for mismanaging plan assets, but also alleged that the company failed to monitor funds in a mutual fund window called BrokerageLink, offered by Fidelity Investments Inc., the defendant’s plan provider. A federal judge in Colorado found that the “Banner Defendants did not monitor investments available in BrokerageLink, nor were they required to do so.” The U.S. Court of Appeals for the Tenth Circuit dismissed the workers’ appeal last year.

Yet T. Rowe Price Group Inc. was able to settle a proprietary investment suit earlier this year by adding a brokerage window to its $3.9 billion 401(k) plan. The deal will “allow Plan participants, for the first time, to invest in a wide range of non-T. Rowe Price investment funds,” according to the settlement motion.