DOL Proposed Regulations on Selecting Socially Responsible Plan Investments

Employee Benefits Alert

Firm Alert

Author(s)

The Department of Labor (DOL) has issued proposed regulations to revise the DOL's existing investment duties regulation regarding environmental, social, and governance (ESG) investments (sometimes referred to as “socially responsible investments” or “economically targeted investments”). The proposed regulation incorporates some prior guidance and adds new recordkeeping requirements for plan fiduciaries considering ESG investments.   

Background

The Employee Retirement Income Security Act (ERISA) generally requires that fiduciaries act solely in the interest of the plan participants and beneficiaries and for the exclusive purpose of providing benefits and paying reasonable administrative expenses. The DOL has periodically issued guidance on the application of these requirements to ESG investments. Under the guidance, fiduciaries were essentially allowed to consider non-pecuniary factors only if they were a tie-breaker for two otherwise equivalent investments. The DOL believes that the previous guidance may have created confusion with respect to investment duties.

To rectify that confusion, the DOL has now issued proposed regulations that are designed in part to make clear that ERISA plan fiduciaries may not invest in ESG vehicles when an underlying investment strategy of the vehicle is to subordinate return or increase risk for the purpose of non-pecuniary objectives. The DOL takes the position that employer-sponsored retirement plans are not vehicles for furthering social goals or environmental objectives; instead, plans should be managed with a focus on providing for the retirement security of employees.

Proposed Changes

The proposal would add the following to the investment duties regulation:

  • New regulatory text to codify the DOL position 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 regulatory provision stating that compliance with the exclusive-purpose (i.e., loyalty) duty in ERISA 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 new provision that requires fiduciaries to consider other available investments to meet their prudence and loyalty duties under ERISA.
  • Acknowledgment that ESG factors can be pecuniary factors but only if they present economic risks or opportunities that qualified investment professionals would treat as material economic considerations under generally accepted investment theories. The proposal adds new regulatory text on required investment analysis and documentation requirements in the rare circumstances when fiduciaries are choosing among truly economically "indistinguishable" investments.
  • A new provision on selecting designated investment alternatives for 401(k)-type plans. The proposal reiterates the DOL's view that the prudence and loyalty standards set forth in ERISA apply to a fiduciary's selection of an investment alternative to be offered to plan participants and beneficiaries in an individual account plan (such as a 401(k) plan). The proposal describes the requirements for selecting investment alternatives for such plans that are described as pursuing one or more environmental, social, or corporate governance-oriented objectives in their investment mandates or that include such parameters in the fund name.

The DOL also issued a news release and a fact sheet with the regulation. Comments are being requested on the new regulation. It remains to be seen what changes will be included in a final regulation and also whether a final regulation will be passed during the current administration. Regardless of the terms of the final regulation, the proposal will likely make it more difficult for ESG investment vehicles to be utilized in retirement plans.  

If you have any questions about the regulation, please contact one of the attorneys in the Employee Benefits and Executive Compensation Practice Group at Bradley.