DOL’s ESG rule argued in appeals court by 26 GOP-led states

Two energy companies, joined by 26 attorneys general from Republican-controlled states, argued to a federal appellate panel against a Biden Administration rule clarifying social factors when considering retirement plan investments.

A U.S. Court of Appeals for the Fifth Circuit panel heard arguments Tuesday on the U.S. Department of Labor 2022 rule, which was upheld by the conservative U.S. District Court for the Northern District of Texas-Amarillo Division.

A friend of the court brief filed by the state of New York along with 17 other states and the District of Columbia in support of the Labor Department explained the rule simply cleared up confusion among fiduciaries caused by a 2020 DOL rule about whether and when environmental, social and governance factors could be treated as financial factors.

“The 2022 rule removes the ‘pecuniary/non-pecuniary’ terminology and clarifies—consistent with DOL’s pre-2020 rules—that plan fiduciaries may consider environmental, social, and governance factors as ‘risk and return factors,’ insofar as the fiduciary ‘reasonably determines’ that the factors ‘are relevant to the risk and return analysis,’” the New York amicus said.

During oral arguments, the panel of circuit judges appeared generally reluctant to go along with Jonathan Berry of Boyden Gray, the attorney speaking for Liberty Energy Inc., Western Energy Alliance and the attorneys general that brought suit in State of Utah v. Julie Su, the acting secretary for the DOL.

A majority of the questioning came from Judge Catharina Haynes and she consistently pitched queries at Justice Department attorney Daniel Winik.

“This rule does not take a position on which collateral benefits a fiduciary could employ … (if) this is a company that is anti-cigarettes, but you decide, ‘Let’s go ahead and, between these two we’ll go with the cigarette company, would that be appropriate for the fiduciary to do?” Haynes said.

When Winik gave a neutral answer that avoided a yes or no, Haynes persisted, stating, “You wouldn’t go work for a company that you can’t stand or you can’t agree with. I’m just trying to understand why a fiduciary wouldn’t be concerned to make sure about something that those beneficiaries will be opposed to.”

“You may be right, as a practical matter, that fiduciaries are likely to pursue collateral benefits that they think are consistent with the views of plan participants,” Winik said.

The GOP attorneys general joined the lawsuit because of their opposition to the use of environmental, social and governance financial planning, also known as ESG planning, when it is applied to considerations about climate change or diversity.

The DOL and amici in support of the rule note, however, that socially responsible investing has an extensive historical pedigree.

The trial court in its summary judgment ruling for the DOL said the state plaintiffs likely did not have standing. On the merits, the district court rejected plaintiffs’ argument that “the plain text of (Employment Retirement Income Security Act) forecloses consideration of non-pecuniary factors, including for tiebreakers,” and concluded the reasonableness of the DOL’s interpretation is supported by its prior rulemakings.

Much of the emphasis during oral arguments was on the tiebreaker rule, which states that when two investments options are evenly matched in terms of risk and reward, collateral considerations can be used to break the tie.

Related: DOL fiduciary rule lawsuit expands, as 2 financial trade groups want it halted too

Berry argued for the plaintiffs that the tiebreak provision is contrary to law.

“ERISA requires fiduciaries to give ‘whole, undivided’ focus to the financial interests of participants, pursuing that consideration ‘to the exclusion of all else.’ There are no other permissible factors,” Berry stated.

Considering a coin flip as the only other option, Haynes responded saying, “Y’all are assuming that the beneficiaries are never going to like what is picked on the tiebreaker. And I guess I don’t really understand that because there can certainly be a company that hates X and X would be what was randomly picked if they randomly pick the tie, versus the one that they would have gone with. Oh, wow, that’s fantastic. Why is that not relevant? If it’s a true tie?”