ESG Factors Can Now Be Considered In Retirement Portfolios

    Department Of Labor Publishes Over 100-Page Report Titled ‘Prudence And Loyalty In Selecting Plan Investments And Exercising Shareholder Rights’

    As climate change brings about warmer temperatures and less snowfall, scientists at the Alaska Climate Science Center, managed by the US Geological Survey (USGS), warn that drought has the potential to seriously disrupt vegetation, wildlife habitat and migration, and the traditional hunting and gathering activities of native people, not to mention increasing the frequency and extent of wildfires. (Image Courtesy Of Shawn Carter, USGS)

    Since the Biden administration took office, there has been a push to incorporate ESG factors into retirement portfolios. Specifically, the Trump administration limited the use of ESG factors in retirement portfolios, whereas the Biden administration is aiming to allow workplace retirement investors to make investment decisions with environmental factors in mind.

    Last week, the US Department of Labor (DOL) put forward a more than 100-page proposal titled “Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights.” The proposal was put forth under the Employee Benefits Security Administration. The DOL proposes amendments to the Investment Duties regulation under Title I of the Employee Retirement Income Security Act of 1974, as amended (ERISA), to clarify the application of ERISA’s fiduciary duties of prudence and loyalty to selecting investments and investment courses of action, including selecting qualified default investment alternatives; exercising shareholder rights, such as proxy voting; and the use of written proxy voting policies and guidelines.


    Title I of ERISA establishes minimum standards that govern the operation of private-sector employee benefit plans, including fiduciary responsibility rules. Section 404 of ERISA, in part, requires that plan fiduciaries act prudently and diversify plan investments to minimize the risk of large losses, unless under the circumstances it is clearly prudent not to do so. Sections 403(c) and 404(a) also require fiduciaries to act solely in the interest of the plan’s participants and beneficiaries, and for the exclusive purpose of providing benefits to participants and beneficiaries and defraying reasonable expenses of administering the plan.

    For many years, the DOL’s non-regulatory guidance has recognized that, under the appropriate circumstances, ERISA fiduciaries can make investment decisions that reflect climate change and other ESG considerations, including climate-related financial risk, and choose economically targeted investments (ETIs) selected, in part, for benefits apart from the investment return. The DOL’s non-regulatory guidance has also recognized that the fiduciary act of managing employee benefit plan assets includes the management of voting rights as well as other shareholder rights connected to shares of stock, and that management of those rights, as well as shareholder engagement activities, is subject to ERISA’s prudence and loyalty requirements.

    On June 30 and September 4, 2020, the DOL published in the Federal Register proposed rules to remove prior non-regulatory guidance from the CFR and to amend the DOL’s Investment Duties regulation under Title I of ERISA. The stated objective was to address perceived confusion about the implications of that nonregulatory guidance with respect to ESG considerations, ETIs, shareholder rights, and proxy voting. The preambles to the 2020 proposals expressed concern that some ERISA plan fiduciaries might be making improper investment decisions, and that plan shareholder rights were being exercised in a manner that subordinated the interests of plans and their participants and beneficiaries to unrelated objectives.

    On November 13, 2020, the DOL published a final rule titled “Financial Factors in Selecting Plan Investments,” which adopted amendments to the Investment Duties regulation that generally require plan fiduciaries to select investments and investment courses of action based solely on consideration of “pecuniary factors.” The current regulation also contains a prohibition against adding or retaining any investment fund, product, or model portfolio as a qualified default investment alternative (QDIA) if the fund, product, or model portfolio reflects non-pecuniary objectives in its investment objectives or principal investment strategies.

    On December 16, 2020, the DOL published a final rule titled “Fiduciary Duties Regarding Proxy Voting and Shareholder Rights” which also adopted amendments to the Investment Duties regulation to establish regulatory standards for the obligations of plan fiduciaries under ERISA when voting proxies and exercising other shareholder rights in connection with plan investments in shares of stock.

    On January 20, 2021, the President signed Executive Order (EO) 13990 titled “Protecting Public Health and the Environment and Restoring Science to Tackle the Climate Crisis.” Section 1 of the Executive Order acknowledges the Nation’s “abiding commitment to empower our workers and communities; promote and protect our public health and the environment.” Section 1 also sets forth the policy of the Biden Administration to listen to science; improve public health and protect our environment; bolster resilience to the impacts of climate change; and prioritize both environmental justice and the creation of the well-paying union jobs necessary to deliver on these goals. Section 2 directed agencies to review all existing regulations promulgated, issued, or adopted between January 20, 2017, and January 20, 2021, that are or may be inconsistent with, or present obstacles to, the policies set forth in Section 1. Section 2 further provided that for any such actions identified by the agencies, the heads of agencies shall, as appropriate and consistent with applicable law, consider suspending, revising, or rescinding the agency actions.

    On March 10, 2021, the DOL announced that it had begun a reexamination of the current regulation, consistent with EO 13990 and the Administrative Procedure Act. The DOL also announced that, pending its review of the current regulation, it will not enforce the current regulation or otherwise pursue enforcement actions against any plan fiduciary based on a failure to comply with the current regulation with respect to an investment, including a Qualified Default Investment Alternative, or investment course of action or with respect to an exercise of shareholder rights. In announcing the enforcement policy, the DOL also stated its intention to conduct significantly more stakeholder outreach to determine how to craft rules that better recognize the role that ESG integration can play in the evaluation and management of plan investments, while continuing to uphold fundamental fiduciary obligations.

    On May 20, 2021, the President signed EO 14030 titled “Executive Order on Climate-Related Financial Risk.” The policies set forth in Section 1 of EO 14030 include advancing acts to mitigate climate-related financial risk and actions to help safeguard the financial security of America’s families, businesses, and workers from climate-related financial risk that may threaten the life savings and pensions of US workers and families.

    Legislators Look To Consider ESG Factors In Retirement Planning

    In May 2021, United States Senators Tina Smith and Patty Murray, and US Representative Suzan DelBene, put forth legislation in the Senate and House. Officially called The Financial Factors in Selecting Retirement Plan Investments Act, the proposal aims to provide legal clarity regarding workplace retirement plans that choose to consider ESG factors in their investment decisions or offer ESG investment options (see “Fahrenheit 2.7: A World Worth Retiring In,” Third Quarter 2021 ESG Review, p. 2).

    “Sustainable investment options are good for retirees and good for our environment — that’s a win-win,” said Senator Smith. “We’re putting forth this legislation because we know there’s a growing demand for sustainable investing, and because we believe Congress should act now to provide the legal certainty necessary to make sure workplace retirement plans are able to offer these options to workers across the country.”

    ESG investment options have been on the rise as retail investors look for customized solutions to wealth management. From low-cost exchange traded funds (ETFs) to ESG-focused hedge funds, ESG products were one of the few asset classes that experienced strong inflows throughout the COVID-19 pandemic (see “An Introduction to ESG,” First Quarter 2021 ESG Review, p.2).

    Smith, Murray, and DelBene point out that despite strong demand for sustainable investing, few pensions or 401(k) plans abide by ESG principles when making investment decisions. Many do not provide sustainable options at all. According to the proposed legislation, sustainable investing was discouraged by a DOL rule under former President Trump that imposed new limits on the consideration of ESG factors by workplace retirement plans. “Americans deserve a secure retirement. ESG investments are a key component in accomplishing that goal,” said Congresswoman DelBene. “This bill promises retirees a pathway not only to reach that secure retirement but a pathway to live in a world worth retiring in.”

    “Retirement security is all about planning for the future — and you can’t truly do that if you aren’t able to consider the ESG factors that will shape the future,” said Senator Murray. “Allowing this approach isn’t just common sense, it’s a win for workers, retirees, investors, businesses, communities, the environment, and more. That’s why Senator Smith, Congresswoman DelBene, and I are introducing legislation to make sure people are able to invest in a future that’s not only more financially secure for their family, but more just, diverse, and sustainable for everyone.”