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Feds Shift ESG Policy for Retirement Accounts

The Labor Department’s recent ESG guidelines for plan fiduciaries could use more clarity

Aron Szapiro


In April, the U.S. Department of Labor released guidance aiming to clarify the Trump administration’s view about how plan sponsors should consider environmental, social, and governance (ESG) factors when selecting retirement plan investments.

While this field assistance bulletin represents a slight shift from the previous administration, it doesn’t change the Labor Department’s long-standing guidance affirming that plan fiduciaries can use collateral considerations such as social or environmental benefits as tie-breakers for an investment choice. That means that a plan sponsor can select an investment with social or environmental benefits if it’s expected to perform the same as an investment without these benefits.

And, although it seems obvious, the department was clear in its April bulletin that “if a fiduciary prudently determines that an investment is appropriate based solely on economic considerations,” then it would be fine for them to select an investment based on ESG factors.   

The apparent shift in the latest ESG guidelines from the Labor Department  

What the April bulletin does do is change the emphasis in guidance issued under the Obama administration by stating: “Fiduciaries must not too readily treat ESG factors as economically relevant to the particular investment choices at issue when making a decision.”   

Others may have found this as confusing as I did. I don’t know what “too readily” is supposed to signal—particularly for retirement plan sponsors, who tend to operate very carefully and slowly because of their high fiduciary standard of care.  

While this slight shift in emphasis shouldn’t change things too much, it does muddy them up a bit for plan sponsors, advisors, and consultants.  

Many investments seek to both apply ESG guidelines within the investment process to improve the strategy’s risk and return profile and attempt to offer ancillary benefits to investors who want their money to have a societal and environmental impact. The Labor Department could help clarify that the second goal doesn’t mitigate the benefits of choosing ESG factors to advance the first.  

There are limits to what the department can do, however, because Congress didn’t contemplate ESG investing when it passed the rules governing retirement plan investments.  

Congress’s concerns with retirement plans picking investments based on other economic factors  

Congress didn’t contemplate ESG or socially responsible investments in 1974, when it passed a sweeping law regulating workplace retirement plan investments. But it did consider so-called economically targeted investments. 

Congress was deeply concerned about ordinary people’s money being invested, mainly in defined-benefit plans, for objectives that were unrelated to helping participants attain a secure retirement. To be blunt, lawmakers were worried about organized crime, particularly in the collectively bargained multi-employer plans.  

Beyond outright theft of pension plan assets and plan administrators shifting their workers’ money to investments for which they received kickbacks, there were more benign but serious problems: Many plan sponsors simply made poor and ill-informed investment choices.  

Congress tried to curb these issues with the Welfare and Pension Plans Disclosure Act of 1958, which didn’t work. The collapse of the auto manufacturer Studebaker left thousands of workers without pensions, providing enough momentum to pass the Employee Retirement Income Security Act of 1974, or ERISA, which imposes strict fiduciary standards on plan sponsors. 

The body of law that governs plan sponsors is focused on ensuring that they don’t use plan assets for any unrelated investment objective. These laws have (rather awkwardly) been applied to contemporary investments that may provide social or environmental benefits. This set of rules was never meant to be an ESG policy for retirement plans.  

Certainly, ESG investments are compatible with the goals of ERISA. But as long as the Labor Department interprets sustainable investing under the existing law’s treatment of economically targeted investments, plan sponsors will lack clarity.   

Congress should consider updating laws to clarify ESG policy for retirement plan investments 

ESG factors can be  so much more than tie-breakers. We believe that holistic evaluations of investment opportunities should include material ESG issues because they help to identify risks and opportunities that traditional financial analysis often omits. Sustainability factors can provide a valuable forward-looking complement to the traditional financial assessment, serving as an important risk mitigation instrument.

In short, we believe that many plan sponsors should be more worried about not including ESG investments in their plans, rather than worried about including them. And, we also believe Congress ultimately needs to update the law governing workplace retirement savings to make it clear that ESG factors are material to investments and make it easier for those who want to use their personal retirement savings to advance social or environmental change. 

Please see below for important disclosure. 

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