DOL Defends ESG Rule, Rationale for Update

The Department of Labor has pushed back on a lawsuit filed by a coalition of 25 state attorneys general that challenged its so-called ESG regulation.

The coalition,[i] led by Texas Attorney General Paxton, said in a January 2023 press release that the 2022 Rule “undermines key protections for retirement savings of 152 million workers—approximately two-thirds of the U.S. adult population and totaling $12 trillion in assets—in the name of promoting environmental, social, and governance (‘ESG’) factors in investing, including the Biden Administration’s stated desire to address climate change.”

The “ESG rule”—more properly referred to as the Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights—took effect Jan. 30, 2023. The suit claimed that “the 2022 Rule oversteps the Department’s statutory authority under the Employment Retirement Income Security Act of 1974 (‘ERISA’), 29 U.S.C. § 1001 et seq., and is contrary to law”—and comments that “the 2022 Rule is also arbitrary and capricious.”

In March, the Labor Department had moved for a change in venue (from the federal court in Texas to Washington, DC)—however, that was rejected, with the U.S. District Judge Matthew J. Kacsmaryk ruling that the agency fell "well short" of meeting its burden of “good cause” to establish that transfer to a different judicial venue would be “for the convenience of parties and witnesses, in the interest of justice.” 

The Background

At the outset, the Labor Department notes that “the Rule challenged here supports the goals of the Employee Retirement Security Act of 1974 (ERISA) by clarifying that ERISA plan fiduciaries may consider any factor in selecting investments that they reasonably conclude is relevant to a risk and return analysis,” that it “clarifies that risk and return factors may include the economic effects of environmental, social, and governance (ESG) factors where appropriate given the relevant facts and circumstances,” and that it therefore “places ERISA plan participants and beneficiaries on equal footing with other market participants.” 

The Labor Department says the rule “also reaffirmed DOL’s longstanding position that, where two investment courses of action are economically equivalent, and ERISA therefore does not instruct fiduciaries as to how to choose between them, a fiduciary may look to collateral benefits in deciding how to break the tie,” and that “the Rule falls comfortably within the Department’s statutory authority and is the product of reasoned decisionmaking.”

Acknowledging that “this matter largely turns on purely legal questions or matters properly subject to judicial notice,” and having made those arguments already, this supplemental filing was intended to “address any additional relevant facts regarding Plaintiffs’ arbitrary-and-capricious claim arising from the complete administrative record and the relief Plaintiffs seek under the Declaratory Judgment Act and the Administrative Procedure Act (APA).”

The Arguments

The Labor Department asserted that “the rule is the product of reasoned decisionmaking, in that the rule:

• Adequately explains its departure from 2020 rules (arguing that the agency need only have a “reasoned explanation” for “disregarding facts and circumstances that underlay or were endangered by the prior policy” for making changes to the 2020 rule.
• Is consistent with its stated rationale of diminishing chilling effect (refuting plaintiffs’ arguments that there was no specific evidence of same).
• Provisions are reasonable and based on proper considerations (“many of the changes Plaintiffs contest were made for the purpose of reducing compliance costs, and ‘it is well within the ‘zone of reasonableness’ for [DOL] to remove increased compliance costs that—in [DOL’s] expert judgment—did not provide sufficient . . . protection benefits’”).

Moreover:

• That it was reasonable not to adopt the collateral benefits disclosure requirement (“the Rule included a three-page discussion of commenter concerns and concluded that ‘a disclosure emphasizing matters collateral to the economics of an investment may not be in the best interests of plan participants’”).
• Sub-regulatory guidance would not have cured defects in the 2020 Rules (“the Rule specifically explained why guidance did not suffice to address certain problematic aspects of the 2020 Rules, including the documentation requirements, QDIA provision, and overall chilling effect. The Rule further explained that DOL initially issued the 2020 Rules for the purpose of clarifying the uncertainty arising from the prior sub-regulatory guidance.”).

The Plaintiffs may not impose a novel procedural requirement in excess of the APA (“DOL complied with ‘the APA’s objective criteria,’ including adequate notice, the opportunity for interested persons to participate, ‘a concise general statement of [the rule’s] basis and purpose,’ and publication at least 30 days before the effective date. Little Sisters of Poor Saints, 140 S. Ct. at 2385–86 (quoting 5 U.S.C. § 553(c)); see also 87 Fed. Reg. at 73822. No more is required.”).

We’ll see what the court has to say on the matter—stay tuned.