Views on improving the integrity of global capital markets
02 December 2020

DOL Finalizes Rule on ESG Investing: Is “Nonpecuniary” a Synonym for “ESG”?

On 30 October, the Department of Labor (DOL, also the Department) issued its final rule on Financial Factors in Selecting Plan Investments, more commonly referred to as the environmental, social, and governance (ESG) investing rule. The final rule is a substantive improvement over the widely opposed original proposal, but industry participants remain concerned about its chilling effect on ESG investing and factor integration, as well as about the integrity of the rulemaking process.

In a statement reported by Reuters and the New York Times DealBook, CFA Institute CEO Marg Franklin described the final rule as a “disservice to fiduciary stewardship and contrary to investor protection.” “ESG factors have become increasingly significant components of professional financial analysis and a risk-adjusted return strategy,” she stated. “This rule places ERISA  (Employee Retirement Income Security Act) retirement savers at a disadvantage.”

In the following, we look closer at the adopted changes in the final rule, highlight key differences between the proposed and final rules, and consider what’s ahead for the final rule.

Final Rule Amendments to ERISA Investment Duties

Most notably, in the operative text of the final rule, the Department has removed any mention of “ESG” and instead has framed the discussion around pecuniary and nonpecuniary investing. This is a significant change from the proposed rule and seeks to address commenters’ overarching objection that the Department is improperly singling out ESG factors.

Still, the current Department has made its prejudice against ESG investing abundantly clear.[1] While acknowledging that ESG factors can be pecuniary, the Department reiterates throughout the preamble to the final rule its numerous concerns about the “growing emphasis on ESG investing, and other nonpecuniary factors” and concludes that ESG investing “raises heightened concerns under ERISA.”

The final rule amends the “Investment duties” of ERISA fiduciaries in the following five major ways:

  1. Requires fiduciaries to evaluate investments and investment courses of action based solely on pecuniary factors. The final rule relaxes the definition of “pecuniary” from the narrow definition under the original proposal (underlined indicates final rule addition): “The term ‘pecuniary factor’ means a factor that a fiduciary prudently determines is expected to have a material effect on the risk and/or return of an investment based on appropriate investment horizons consistent with the plan’s investment objectives and the funding policy.”

  2. States that compliance with the “exclusive purpose” (loyalty) duty under ERISA prohibits fiduciaries from subordinating the interests of participants to unrelated objectives and bars them from sacrificing investment returns or taking on additional investment risk to promote nonpecuniary goals.

  3. Requires fiduciaries to consider “reasonably available alternatives” to meet their prudence and loyalty duties. DOL added this language to clarify it did not mean to suggest in the original proposal that fiduciaries must “scour the marketplace” or look at an infinite number of possible alternatives as part of their investment comparison evaluation.

  4. Updates the “All Things Being Equal” Test (also, the “tiebreaker” standard): In tiebreaker situations in which plan fiduciaries are choosing between or among investments, the final rule allows fiduciaries to choose one of the investments on the basis of a nonpecuniary factor only if, after completing an appropriate evaluation, a fiduciary cannot distinguish between alternative investments on the basis of pecuniary factors.

    The fiduciary must then document (a) why pecuniary factors alone did not provide a sufficient basis to select the investment; (b) how the selected investment compares to the alternative investments with regard to certain factors; and (c) how the chosen nonpecuniary factor or factors are consistent with the interests of participants and beneficiaries in their retirement income or financial benefits.

    The final rule eliminates language in the proposal that permitted tiebreaker reliance on nonpecuniary factors only if the alternatives were “economically indistinguishable,” a test many commenters found unworkable.

  5. States that the ERISA prudence and loyalty standards apply to a fiduciary’s selection of a designated investment alternative offered to plan participants and beneficiaries in a participant-directed individual account plan. The final rule eliminates proposed documentation requirements.

    The final rule prohibits plans from adding or retaining any investment fund, product, or model portfolio as a qualified default investment alternative (QDIA) or as a component of such a default investment alternative if its objectives or goals or its principal investment strategies include, consider, or indicate the use of one or more nonpecuniary factors. The proposal explicitly prohibited ESG factors.

Effective Dates

The final rule becomes effective on 21 January 2021 and will apply prospectively to investments made and investment courses of action taken after this date. Plans have until 30 April 2022 to make any necessary changes to qualified default investment alternatives.

The Department emphasizes that nothing in the final rule “forecloses the Department from taking enforcement action based on prior conduct that violated ERISA’s provisions, including the statutory duties of prudence and loyalty, based on the statutory and regulatory standards in effect at the time of the violation.”

What’s Next for the Final Rule?

Whether a Biden administration decides to reverse or modify the rule remains to be seen. As a first step, a Biden administration is likely to issue a nonenforcement policy on the final rule, pending further review. To repeal the rule, it would generally be required to go through a notice-and-comment rulemaking process.  To modify the rule, the administration could issue subregulatory guidance to clarify the final rule under a more favorable interpretation of ESG factors. With respect to QDIA, a Biden Department of Labor could delay the 30 April 2022 effective date, then promulgate a new rule explicitly permitting the selection of ESG funds. In general, expect a more favorable regulatory environment for ESG-factor integration under a Biden administration.

On the congressional front, a legislative challenge to the final rule faces a steep ascent. If Democrats win both Georgia seats on 5 January and take the Senate, they could employ the Congressional Review Act to roll back the final rule. Our current outlook suggests this is an unlikely avenue. More likely, members of the 117th Congress will continue to debate ESG investing, whether regarding issuer disclosure, greenwashing, or ERISA, resulting in legislation across parties in both the House and Senate chambers.

[1] See DOL Sec. Eugene Scalia’s editorials in the Wall Street Journal (“Retirees’ Security Trumps Other Social Goals”) and Tampa Bay Times (“Pension Plan Managers Aren’t Supposed to Solve the World’s Problems”).

Photo Credit @ Getty Images / manoonpan phantong

About the Author(s)
Karina Karakulova

Karina Karakulova is Senior Manager, Capital Markets Policy AMER at CFA Institute. The capital markets group develops and promotes policy positions and research that advance market integrity, investor protection, and high ethical standards of professional conduct within the investment community.

1 thought on “DOL Finalizes Rule on ESG Investing: Is “Nonpecuniary” a Synonym for “ESG”?”

  1. Robert Pajak says:


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