As my colleagues Amy Roy and Robert Skinner recently described, on September 21 the Northern District of Texas issued a well reasoned but very surprising ruling in favor of the U.S. Department of Labor’s (DOL) ESG rule. The court rejected all of the arguments brought by 25 Republican state attorneys general, including claims that the DOL had exceeded its authority with the rule.
I and many professionals following this case closely had expected that the District Court would find in favor of the plaintiffs, and that the DOL and proponents of the rule would be left to seek clarity and protection for the rule (and the market practices that have developed around it) in the Fifth Circuit Court of Appeals (and possibly the Supreme Court).
Instead, we find that the plaintiffs must turn to the Fifth Circuit to advance their attacks on the rule, which they did yesterday, by filing a notice of intent to appeal. It is impossible to predict how the case will play out in the Fifth Circuit, but we can share our views on what asset managers that manage ERISA plan assets should be doing while the rule's fate remains uncertain.
1. Stay the course (at least for now). The rule is currently in effect, with most requirements having gone into effect on February 1 of this year. Fiduciaries should already be following the rule and should continue to do so unless something changes re: the rule's status. In addition, as we described in a recent alert, there is a looming December 1 compliance deadline for certain requirements relating to proxy voting which may require obtaining consent from investors, and any asset manager who has not formed a plan to comply by December 1 should begin planning as soon as possible.
2. Remember the DOL rule is neutral. Despite the State AGs' arguments and characterizations of the rule as radical or "pro-ESG" by certain Republican members of congress and state governments, the actual text of the rule is both consistent with historic DOL guidance and very neutral in tone. This means fiduciaries to plans (and asset managers designing funds for plans to invest into) should base investment decisions on factors that the fiduciary reasonably determines are relevant to a risk and return analysis, using appropriate investment horizons consistent with the plan’s investment objectives and taking into account the funding policy of the plan established pursuant to ERISA. ESG factors can be part of those investment decisions, but they should generally be treated like any other economic factor. Even if the current rule is ultimately changed, investment decisions based on sound economic rationales and following reasonable processes should not create problems.
3. Watch the upcoming elections. We have seen multiple attempts by Republicans in Congress, including recent bills introduced in the House in September, to effectively repeal the DOL's current rule and enshrine some version of the Trump administration's controversial ESG rule in ERISA. While these are little more than messaging exercises at present, upcoming elections could create a potential path for congress to limit the ability for fiduciaries to consider ESG when making investment and proxy voting decisions under ERISA.
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