Danette Edwards, Johnjerica Hodge, Ifedapo Benjamin
Feb. 6, 2023 - Katten
On January 26, 2023, twenty-five states, plus a publicly traded energy company with a subsidiary that is a fiduciary and trustee under ERISA, a trade association for the oil and gas industry, and a participant in an ERISA plan sued the U.S. Department of Labor (“DOL”) and its Secretary in connection with DOL’s recent ESG rulemaking. Utah v. Walsh, N.D. Tex., No. 2:23-cv-0016-Z. The suit asserts claims under the Administrative Procedure Act stemming from alleged ERISA violations as well as an argument that DOL’s new ESG rule is arbitrary and capricious. The plaintiffs seek a preliminary and permanent injunction, and have asked the court to set aside the rule as unlawful.
The DOL rule in dispute is the “Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights” (“2022 Investment Duties Rule” or “Rule”), which DOL announced on November 22, 2022. As we explained in a post last November, the 2022 Investment Duties Rule was issued in response to Executive Order 14030: Climate-Related Financial Risk, which directs the federal government to consider policies to protect retirement funds from ESG threats. See “New DOL Rule Enables Consideration of ESG Factors in Investing, Plus the SEC Continues its ESG Enforcement Push in the Absence of Final SEC Rules.” When DOL adopted the Rule, Secretary of Labor Marty Walsh stated that the Rule “clarifies that retirement plan fiduciaries can take into account the potential financial benefits of investing in companies committed to positive environmental, social and governance actions as they help plan participants make the most of their retirement benefits.”
The suit against DOL alleges that the Rule conflicts with ERISA, as interpreted by Fifth Third Bancorp v. Dudenhoeffer, 573 U.S. 409 (2014), because it “contravenes ERISA’s clear command that fiduciaries act with the sole motive of promoting…financial interests” by permitting reference to ESG considerations. The complaint additionally alleges that both the “major questions doctrine” and the Supreme Court’s decision in West Virginia v. EPA, 142 S. Ct. 2587 (2022), preclude DOL from authorizing or mandating that ERISA fiduciaries consider nonpecuniary factors. In support of these allegations, the complaint states:
The sheer magnitude of the assets that the 2022 Investment Duties Rule would affect - over half of the GDP of the entire United States - suggests that courts should hesitate before finding that DOL has authority to regulate in this area for nonfinancial purposes. …. [] DOL’s present claim of authority to allow fiduciaries to consider nonpecuniary factors like climate change can be used to mandate such consideration tomorrow. (Emphasis in original.)
Further, the complaint alleges that the Rule is arbitrary and capricious because purportedly: it ignores considerations relevant to ERISA, including the potential harms that the Rule might cause plan participants and beneficiaries; DOL has not articulated adequate justification or explanation for the Rule and failed to consider alternatives; and DOL unlawfully prejudged the question of whether to rescind its prior rules in this space in favor of a more ESG-friendly rule.
The lawsuit is part of a movement in some areas of the country that seeks to restrict certain ESG activities. Some of the plaintiff States in the lawsuit have adopted “anti-ESG” laws or policies seeking, for example, to protect particular industries (e.g., fossil fuels and firearms) by targeting ESG-based investing and ESG sustainability ratings.
Against this backdrop, SEC Commissioner Mark Uyeda asked “what exactly is the DOL accomplishing” with the Rule and opined it was “unlikely that a rule permitting the consideration of non-financial factors would be lawful” in remarks on January 27, 2023. Commissioner Uyeda then addressed the SEC’s three proposed ESG rules: one targeting corporate issuers, one targeting investment advisers and investment companies, and one targeting investment companies’ use of “ESG” in a fund name. In particular, he said that the proposed ESG issuer rule “presents numerous potential issues,” including possible tension with the major questions doctrine and West Virginia vs. EPA.
The SEC is expected to adopt its final ESG rules this spring. Depending on what the final SEC rules prescribe, the Commission may find itself defending constitutional and other challenges, similar to the DOL. Both agencies may be delayed in implementing and enforcing their ESG rules in the interim.