Death by Paperwork? ESG Investing Probe Hints at Onerous Pile-On

A series of form letters sent to retirement plans hint at how the Labor Department may enforce a new requirement that sponsors justify socially conscious investments.

One such letter obtained by Bloomberg Law presses plan administrators to provide 13 types of supporting documents, including: the names, addresses, and duties of those responsible for making investment decisions, proxy voting policies, and myriad financial statements associated with the plan design.

The letters predate a proposed rule by the Employee Benefits Security Administration, which would require sponsors to fully document their reasoning for investing in environmental, social, and corporate governance (ESG)-focused funds, according to an agency official. EBSA has been sending out the letters over the past few months.

But failing to hand over every document related to a plan administrator’s decisions doesn’t automatically mean there’s been a fiduciary breach, benefits lawyers say. Labor officials would still have to prove that the investment activity is financially harmful under current law, they say.

“It’s not an enforcement initiative,” Susan Rees, a former EBSA official

now with Wagner Law Group in Boston, said of the proposed rule.

DOL trial lawyers “still have to prove it’s imprudent” to invest in ESG funds to prevail in lawsuits alleging a breach of fiduciary duty, she said, adding that would likely be “a claim of last resort.”

The Labor Department didn’t respond to a request for comment about how EBSA will enforce the rule once it becomes final. But an administration official said the agency is open to suggestions through July 30.

“The Department encourages anyone with an opinion on the proposed rule to file a public comment,” an agency spokeswoman wrote in an email.

‘Good Practice’

Documenting a fiduciary’s decision-making is “good practice and evidence of a prudent process,” said George Sepsakos, a former EBSA official now with Groom Law Group in Washington.

But it isn’t clear to Sepsakos whether the Labor Department would consider a failure to document a “per se” breach of the Employee Retirement Income Security Act of 1974.

Former EBSA officials say the agency could take a number of enforcement steps if plan sponsors don’t comply with the ESG documenting rule. Those include conducting audits, subpoenaing plan-related documents, and ultimately filing suit, according to Marc Machiz, an EBSA enforcement alum turned co-founder of Justican Mediation LLC in Florida.

The agency could also demand that plans purge ESG offerings, require restitution to make up for the perceived economic harm, seek to disqualify existing fiduciaries, and get an injunction blocking plan administrators from failing to comply in the future.

“EBSA, in most cases, seeks voluntary compliance from the plan sponsor when they assert violations of ERISA,” Sepsakos said. “But to the extent that the plan sponsor disagrees, EBSA’s recourse is to go to the courts.”

Focusing Resources

Machiz suggested the agency could save time and money by focusing its enforcement on other endeavors.

If investigators get involved in the too much paperwork about ESG, it “would involve ignoring serious violations to focus on record keeping and nuance,” he said. The agency is still responsible for ferreting out detrimental practices such as self-dealing transactions that benefit fiduciaries rather than participants, for example.

Karen Handorf, a former DOL official who’s now chair of Cohen Milstein Sellers & Toll’s ERISA practice group in Washington said EBSA’s investigators can’t make a meaningful dent without additional help.

“They’d have to have a better budget than they do now,” she said. “They’re stretched pretty thin.”

But leaving ESG investments alone is likely not an option at this point. “They’ve been going down this path for the last few months,” Sepsakos said.

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