DOL issues final ESG rule

The Department of Labor (DOL) published a final rule under the Employee Retirement Income Security Act (ERISA) and a related fact sheet clarifying that plan fiduciaries may consider climate change and other environmental, social and governance (ESG) factors when they make investment decisions and when they exercise shareholder rights, including voting on shareholder resolutions and board nominations.

The final rule largely follows the rule proposed in late 2021, except for some changes in response to comments received (discussed below).¹ This rule replaces final rules published in 2020 during the Trump administration that, among other things, generally required plan fiduciaries to select investments and investment courses of action based solely on consideration of “pecuniary factors,” or those related to the financial risk or return of an investment.

Importantly, the final rule does not mandate that ESG factors be considered under every circumstance nor does it create an incentive for fiduciaries to favor ESG strategies when making investment decisions.

The final rule retains the core principle that ERISA’s duties of prudence and loyalty require plan fiduciaries to focus on relevant risk-return factors and consider the interests of participants and beneficiaries. In particular, the final rule:

1. Clarifies that a fiduciary's duty of prudence must be based on factors that the fiduciary reasonably determines are relevant to a risk and return analysis of a particular investment or investment course of action, which may include the economic effects of climate change and other ESG considerations
2. Replaces the so-called “tiebreaker” standard in the 2020 final rule (where collateral factors — including ESG factors — could only be considered when necessary to break a tie between competing investments that are economically the same) with one that requires the fiduciary to prudently conclude that competing investments equally serve the financial interests of the plan before the fiduciary may base a decision on collateral benefits other than investment returns
3. Adds a new provision clarifying that fiduciaries do not violate their duty of loyalty solely because they take participants' non-financial preferences into account when constructing a menu of prudent investment options for participant-directed individual account plans
4. Makes it so that the standards applied to qualified default investment alternatives (QDIAs) are no different from those applied to other investments
5. Requires a plan fiduciary to focus on relevant risk and return factors when selecting a QDIA and not subordinate the interests of participants and beneficiaries to objectives unrelated to providing benefits under the plan
6. Retains the core principle that when a plan's assets include shares of stock, the fiduciary duty to manage plan assets includes the management of the shareholder rights related to those shares, discourages abstention as the normal course related to shareholder rights, and eliminates various safe harbors in the 2020 final rules that limited a fiduciary’s obligation to vote on issuer’s proposals in certain situations.

Going forward

The final rule takes effect, and becomes applicable, on January 30, 2023. For certain proxy voting provisions, applicability is delayed until December 1, 2023, to allow fiduciaries and investment managers additional time to review any proxy voting policies and guidelines and make any necessary changes.

Footnote

¹ For more information on the proposed rule, see “Proposed updates to rules on ESG factors and voting proxies,” Insider, November 2021.

Authors

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Stephen Douglas

Senior Director, Retirement and Executive Compensation

email Email phone +1 203 326 6315

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William “Bill” Kalten

Senior Director, Retirement and Executive Compensation

email Email phone +1 203 326 4625

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