DOL Will Not Enforce Final Rules on ESG, Proxy Voting

The US Department of Labor (DOL) on Wednesday said it will not enforce two widely disputed final rules on proxy voting and environmental, social, and governance (ESG) investing in retirement plans subject to the Employee Retirement Income Security Act (ERISA).

The federal agency said it plans to revisit those guidelines, which were enacted in the final days of the Trump administration.

The decision comes after an executive order from President Joe Biden, who called on federal agencies to review any existing regulations that go against tackling climate change. Any rules that do not comply with the policy change should be reviewed, the order says.

The DOL is planning to revisit both rules that were highly criticized from stakeholders, who considered the guidelines confusing and restrictive. The two rules at the heart of the matter are called the “Fiduciary Duties Regarding Proxy Voting and Shareholder Rights” and “Financial Factors in Selecting Plan Investments.”

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Last summer, an early iteration of the financial factors rule from then-Labor Secretary Eugene Scalia that was especially restrictive on ESG drew more than 1,100 letters during a 30-day comment period, from asset managers, plan sponsors, service providers, organization groups, and others. Many protested the proposal.

ESG investments have been rising in popularity among investors for several years, but they have also faced pressure from critics who worry that they advance social causes to the detriment of financial returns.

ESG supporters have said seeking good investment returns and promoting ESG precepts are not in conflict, and stakeholders have questioned whether these rulemakings were rushed unnecessarily, saying they failed to adequately consider and address the substantial evidence that ESG considerations improve investment value and long-term investment returns for retirement investors.

In October, the DOL announced a final financial factors rule that eased its stance on ESG investing, arguing sustainability factors could be financially material in some cases for investments.

Unmollified, investor proponents of ESG argued that the rules have already had a “chilling” effect on sustainable investments, even “in circumstances that the rules can be read to explicitly allow,” according to the DOL statement.

“These rules have created a perception that fiduciaries are at risk if they include any environmental, social, and governance factors in the financial evaluation of plan investments, and that they may need to have special justifications for even ordinary exercises of shareholder rights,” Principal Deputy Assistant Secretary for the Employee Benefits Security Administration (EBSA) Ali Khawar said in a statement.

The decision to suspend enforcement of the Trump-era rules did not come as a surprise to fiduciary experts, who said it gives the DOL time to evaluate whether it should attempt new rules.

The DOL’s final rule on proxy voting, released in December, maintained that private plan fiduciaries should refrain from voting on matters that are not financially material to the plan. The department could now go on to issue additional guidance easing the compliance burden for proxy voting and exercising other shareholder rights, according to George Michael Gerstein, co-chair of the fiduciary governance group at law firm Stradley Ronon.

“I would not be surprised to see that,” Gerstein said. “The net effect of it would be perhaps greater willingness of plan fiduciaries to support various shareholder proposals.”

Still, proxy voting will continue to face scrutiny from both the DOL and the Securities and Exchange Commission (SEC). The agencies could review whether some cases are appropriate to vote on, according to Gerstein.

“I think that those concerns are going to remain part of the dialogue,” Gerstein said.

The trend to incorporate ESG factors that are material to investments will also continue among corporate plan fiduciaries, Gerstein said. Wider adoption of sustainable investments will be determined more by their performance in the markets than by language from the federal agency, the attorney said.

“That’s unaffected by any of this,” he said.