DOL to Allow for ESG Considerations in Plan Investments

On November 22, the Department of Labor (DOL) issued the “Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights” rule that allows plan fiduciaries to take environmental, social, and governance (ESG) factors into account when selecting retirement investments and exercising shareholder rights. The new rule undoes two rules previously issued in 2020 that required investments be made purely on “pecuniary factors,” as well as establishing a prohibition on any funds, products, or model portfolios if that product included even one non-pecuniary objective.

Overview of the rule

The intent of the new rule is to acknowledge the potential financial benefits that can come from ESG investment strategies, and allow retirement plans to account for the realities of climate-related financial risk in investments. 

The final rule contains four important updates to how fiduciaries of retirement accounts for government employees should consider ESG related factors. Those include:

• Clarification of Permissibility of Consideration of ESG Factors – The rule clarifies that a fiduciary’s duty of prudence must be based on factors they reasonably believe are relevant to the risk and return of an investment. Factors such as the economic effects of climate change and other ESG factors may now be considered as part of this analysis. 
• Changes to Qualified Default Investment Alternatives (QDIAs) – The rule now applies the same standards for QDIAs as are applied to any other form of investment. Like other investments, fiduciaries must focus on relevant risk and return factors when selecting a QDIA. 
• Clarification of the Application of the Duty of Loyalty – The rule allows a fiduciary to take a participant’s non-financial preferences into account when they are providing investment options for participant-directed investment plans. It also establishes a “Tiebreaker Test,” which allows fiduciaries to consider collateral benefits of an investment when the fiduciary concludes that competing investments or courses of action equally serve the financial interests of the plan. Previous rules would only allow the consideration of collateral benefits when the economic impact of multiple competing investments were indistinguishable from each other. 
• Provisions on Shareholder Rights, Including Proxy Voting – This modifies existing rules to ensure the fiduciary duty to manage plan assets includes the proper management of shareholder rights. This includes modifications to minimize abstention as the normal course of action, and the removal of record keeping obligations around proxy voting that may create the misconception that proxy voting and other shareholder rights activities carry different fiduciary obligations.

Next steps

The rule will go into effect 60 days after its publication in the Federal Register, with applicability of certain proxy voting provisions for one year to allow fiduciaries to make the necessary updates to their policies and procedures.

How we help

The ESG landscape is evolving at a rapid pace and requires additional resources to meet investor and regulatory expectations. Our dedicated ESG Advisory and Analytics practice helps firms develop and monitor ESG programs to mitigate risk, make informed choices, grow profitably and sustainably, and combat greenwashing. Learn how ACA’s ESG advisory services can support your business.

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