Editor’s note: This is an updated version of an article that was first published on June 13, 2022.
The “crypto winter” that hit earlier this year impacted digital asset prices and served as a healthy reminder that cryptocurrencies are volatile and highly risky investments.
But now, in the wake of the implosion of crypto exchange FTX, crypto investors they were reminded of another risk they face: Crypto accounts they have no guaranteed protections when the exchange or platform provider goes under.
Nor can traditional savings and investment accounts be 100% safe in the event that an entity becomes insolvent. But most banks and brokerages, as well as 401(k) plans, offer federally guaranteed protections and other insurance.
Cryptocurrency custody accounts, however, do not enjoy these same guarantees, in part because the legal, tax and regulatory frameworks, not to mention the legal definitions of what a specific cryptocurrency is, are still being worked out. They are not legal tender and are not always considered securities.
Additionally, customers may unwittingly agree to let the company running an exchange or platform use their digital assets. “There are some platforms that have agreements that basically say ‘by depositing your crypto with us, you’re giving us the authority to use, transfer, invest, do whatever we want with your crypto,'” said the lawyer for Florida-based bankruptcies, Alan Rosenberg.
And if the company goes bankrupt, customers may be treated as unsecured creditors, meaning they may receive nothing back
So Rosenberg’s best advice is to read the legal fine print before buying, selling or storing digital assets with any company that facilitates crypto trading to see what protections they offer.
For investments and savings in which you would like to make more sense security, here are some of the key protections offered by traditional financial accounts.
If you have a checking or savings account, money market deposit account, or certificates of deposit at a bank or credit union, make sure the institution has deposit insurance.
Banks are usually insured by the Federal Deposit Insurance Corporation (FDIC). If your bank fails, this coverage will protect up to $250,000 per depositor for each category of account ownership at an FDIC-insured bank. There are several types of deposit accounts you can have at a bank (eg personal account, business account, etc.) and each would be covered separately. Plus, if you have a joint account, each owner is covered up to $250,000. (Use this FDIC calculator to figure out your coverage based on the details of your situation.)
And if you have deposits in a self-directed retirement account at a federally insured bank, they’d also get up to $250,000 in protection.
Federally insured credit unions offer the same level of coverage through the National Credit Union Administration (NCUA).
If you have an IRA or taxable stock and bond account with a registered broker-dealer that is a member of the nonprofit Securities Investor Protection Corporation, you’ll receive up to $500,000 in bankruptcy protection from that brokerage.
Up to half of this amount can be used to protect the cash in your account associated with your securities, for example, if you just sold some shares and leave the proceeds in your account with the brokerage.
In addition to SIPC insurance, a brokerage can offer additional protection to its clients through private insurers such as Lloyd’s of London.
In addition, the Securities and Exchange Commission issued a Client Protection Rule that requires registered broker-dealers to protect client securities and cash by prohibiting dealers from using client money to fund general expenses or business activities.
If your employer goes under, legally the money in your 401(k) cannot be treated as company assets by a bankruptcy court.
“[The Employee Retirement Income Security Act] protects 401(k) assets that have been deposited and are fully vested if the employer files for bankruptcy,” said Hattie Greenan, spokeswoman for the Plan Sponsor Council of America.