Not So Fast: DOL Changes Course on Trump-Era ESG Investment Rule
The United States Department of Labor’s (“DOL”) Employee Benefits Security Administration (“EBSA”) announced on March 10, 2021 that it will not enforce certain final rules put into place under President Trump related to environmental, social, and governance (“ESG”) investing. In particular, the EBSA will not enforce a controversial DOL rule pushed through last year that would significantly limit investors’ ability to consider ESG criteria in most retirement investing and effectively prevent ESG investments from being included in such portfolios. In addition, the EBSA announced that it will not enforce a Trump-era proxy voting rule that discouraged the use of proxy voting to promote ESG criteria.
The controversial retirement investing rule, which was announced in June 2020, would have dramatically changed the landscape of ESG investing in retirement accounts. The rule, titled “Financial Factors in Selecting Plan Investments,” made several changes to the provisions of the Employee Retirement Income Security Act of 1974 (“ERISA”), significantly restricting the ability of ERISA fiduciaries to invest in ESG investments. The rule was pushed through at an unusually rapid pace and with extremely sparse support, with only a 30-day comment period during which over 95% of the comments received were in opposition. It was made final in November 2020.
The Trump Administration’s ERISA Rule
According to DOL’s Fact Sheet, the 2020 rule includes five key changes to ERISA:
- An affirmative statement “that ERISA requires plan fiduciaries to select investments and investment courses of action based on financial considerations relevant to the risk-adjusted economic value of a particular investment or investment course of action[;]”
- An express statement that complying with ERISA’s duty of loyalty “prohibits fiduciaries from subordinating the interests of plan participants and beneficiaries in retirement income and financial benefits under the plan to non-pecuniary goals[;]”
- A requirement that fiduciaries “consider other available investments to meet their prudence and loyalty duties[;]”
- An acknowledgement that ESG factors can be pecuniary “but only if they present economic risks or opportunities that qualified investment professional would treat as material economic considerations under generally accepted investment theories” (including new documentation and analysis requirements for investment “tie-breaking”); and
- A provision on “selecting designated investment alternatives for 401(k)-type plans” which reiterates that the duties of prudence and loyalty apply to a fiduciary’s choice of investment alternative to be offered in a 401(k)-type plan.
Although many were critical of the proposed rule, the Trump administration defended the proposal with claims that ESG funds do not perform as well as other investments. Whether or not this is accurate, however, is an open question, and many opposing the rule think that this is a faulty premise. Nonetheless, the imposition of the Trump-era rule had a significant chilling effect on ESG investing in retirement accounts, even in the short period during which it was subject to enforcement. Our prior comment on the rule can be found here.
The Proxy Voting Rule
The EBSA also indicated that it would not enforce the Trump Administration’s 2020 ban on the use of proxy voting to promote social, sustainability, and/or political goals. The proxy rule, titled “Fiduciary Duties Regarding Proxy Voting and Shareholder Rights,” was published as a final rule on December 16, 2020 and indicated that using proxy voting to impact ESG issues would not be in investors’ best interests. This rule, though significant, has not yet had as measurable an effect on the ESG investing landscape as have the ERISA limitations.
Changes Under the Biden Administration
The change of course is unsurprising, as DOL’s prior guidance with respect to ERISA investing has not only been inconsistent, but has tended to change with each administration. Indeed, the Biden administration indicated on day one in office that this DOL rule was among the Trump-era policies that would likely be changed. The EBSA has also indicated that DOL received commentary and questions from a wide array of interested parties who expressed doubt as to whether the ERISA rule and the proxy rule, both discouraging ESG-conscious investing and shareholder activity, accurately reflected the fiduciary duties of an ERISA fiduciary, as well as doubt about the speed and adequacy of the process by which the ERISA rule in particular was adopted.
The EBSA’s decision means that plan managers may once again consider ESG criteria in selecting investments for retirement plans. This is particularly significant because ESG investing has been on a rapid rise over the last few years and evidence indicates that investors are growing more and more interested in socially-conscious investing. Some observers in the market have noted, though, that they wish the EBSA had made this announcement sooner, as ESG funds have already been dropped from many retirement plans as a result of the November final rule. The EBSA’s press release announcing its decision to cease enforcement of the rules even indicated that “[t]he department has . . . heard from stakeholders that the rules, and investor confusion about them, have already had a chilling effect on appropriate integration of ESG factors in investment decisions[.]” It may therefore take some time to repair the damage done to ESG investments in ERISA accounts.
What’s Next?
Further rulemaking in this area is expected. In fact, the interim head of the EBSA has indicated that the EBSA does intend to promulgate new regulations or at least release new guidance allowing plan managers to consider ESG factors when evaluating plan investments as long as they continue to meet their fiduciary duties. However, until such guidance or regulations are published, the EBSA will simply not enforce the Trump-era rule related to ERISA investing nor the ESG proxy voting rule, and no enforcement actions will be pursued based on these rules.
Any new efforts by the EBSA are promised to be more reasoned. According to Principal Deputy Assistant Secretary of the EBSA, Ali Khawar, the EBSA “intend[s] to conduct significantly more stakeholder outreach to determine how to craft rules that better recognize the important role that environmental, social and governance integration can play in the evaluation and management of plan investments, while continuing to uphold fundamental fiduciary obligations.” Although it may be some time before any specific new direction is given by the EBSA, in the meantime, ERISA plan managers can once again breathe more easily when selecting ESG-focused funds for the portfolios they manage.
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