ESG Rules for 401k Plans Confound Retirement Committees

ESG rules for 401k plans could be overturned under the Biden administration.  The use of environmental, social and governance (ESG) funds in 401(k)s and similar employer-sponsored retirement plans is currently under review by the Biden administration.  A regulation approved last fall by the Department of Labor under the Trump administration was widely believed to hamper the use of ESG investments in retirement plans.  Now, the Biden administration could potentially make it easier for retirement plan fiduciaries to include popular ESG funds in their investment lineups.  The review is part of a list of 100 Trump regulations with an environmental slant that the Biden transition team intends to revisit, according to a recent InvestmentNews article.

Socially responsible investing has historically created confusion for plan sponsors.  That’s because there wasn’t a whole lot of guidance around it. Socially responsible investing includes funds that take environmental, social, and governance (ESG) factors into account when selecting the fund’s underlying investments.  It appears as though s ESG rules for 401k plans could impact investment strategy and some investment funds.

According to InvestmentNews, “The DOL rule, which amends the investment duties regulation of federal retirement law, requires plan fiduciaries to select investments and strategies based solely on how they will affect the plan’s financial performance, or so-called pecuniary goals.”  “Pecuniary factors [are] described as any factor that a fiduciary prudently determines is expected to have a material effect on the risk and return based on appropriate investment guidelines,” according to another article published in Pensions&Investments.

The existing rule went into effect on Jan. 12th.  That means the DOL under the Biden administration would have to go through a new regulatory rule making process to overturn it.  The language in the rule was “walked back” to exclude much of ESG rules for 401k plans.  The  language it originally contained, is discussed in the preamble.  At question is whether an investing factor is pecuniary or non-pecuniary, according to Jeanne Klinefelter Wilson, acting assistant secretary of labor for the Employee Benefits Security Administration, who was quoted in another InvestmentNews article on the topic.

In addition, a separate DOL fiduciary rule passed under Trump that would change investment advice requirements for retirement plan fiduciaries is set to go into effect on Feb. 16th.  The DOL under Biden could also delay that regulation’s effective date while it decides on next steps.

Neither the existing ESG rule nor the pending fiduciary rule are particularly popular, so changes to these rules will be welcomed by opponents.

In fact, both rules were finalized late enough in the Trump administration that Congress could overturn them through a process called the Congressional Review Act, according to InvestmentNews.  “A vote of disapproval through the CRA process only requires a simple majority, meaning it would not be stymied by a filibuster in the Democratic-controlled Senate,” the article noted.

However, the CRA may not apply if the Democrats determine they want the Biden administration to undergo its own process to decide on regulatory measures pertaining to ESG rules for 401k plans and investment advice.  For now, retirement plan fiduciaries should pay very close attention to regulatory developments regarding ESG funds and fiduciary investment advice as they evolve.

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