Just days before the Department of Labor's (DOL) Environmental, Social, and Governance (ESG) investment rule amendments were set to go into effect on January 30, 2023, 25 states filed suit in a Texas federal court to invalidate the rule and prevent the Department from implementing it. Utah v. Walsh, No. 23-cv-16 (Jan. 26, 2023, N.D. Tex.). Along with a single ERISA plan participant, several entities — Liberty Oilfield Services, LLC, an employer-sponsor of a 401(k) plan, and its publicly traded parent Liberty Energy, Inc., as well as Western Energy Alliance, a trade association representing 200 oil and gas companies — joined the states as co-plaintiffs in the lawsuit. 

The challenged regulation, entitled "Prudence and Loyalty in Selecting Plan Investments and Exercising Shareholder Rights," 87 F.R. 73,822, was issued December 1, 2022, and was intended to "clarify the application of ERISA's fiduciary duties of prudence and loyalty to selecting investments and investment courses of action, including selecting qualified default investment alternatives, exercising shareholder rights, such as proxy voting, and the use of written proxy voting policies and guidelines." The amendments modify certain changes to the Investment Duties regulation adopted during the Trump administration, which allowed fiduciaries to consider non-pecuniary factors when making investment decisions only as a "tiebreaker" among indistinguishable investment options.  

The new ESG regulation states:

A fiduciary's determination with respect to an investment or investment course of action must be based on factors that the fiduciary reasonably determines are relevant to a risk and return analysis, using appropriate investment horizons consistent with the plan's investment objectives and taking into account the funding policy of the plan established pursuant to section 402(b)(1) of ERISA. Risk and return factors may include the economic effects of climate change and other environmental, social, or governance factors on the particular investment or investment course of action.

In Utah v. Walsh, the plaintiffs contend that the new rule violates the Administrative Procedure Act (APA) because it exceeds the DOL's statutory authority under ERISA. According to the plaintiffs, the rule allegedly conflicts with ERISA's statutory requirement that fiduciaries must manage plan assets "solely in the interest of the participants and beneficiaries and . . . for the exclusive purpose of . . . providing benefits to participants and their beneficiaries." 29 U.S.C. § 1104(a)(1). The plaintiffs allege that the new rule "contravenes ERISA's clear command that fiduciaries act with the sole motive of promoting the financial interests of plan participants and their beneficiaries" by eliminating the "objective pecuniary/nonpecuniary standard in the 2020 rule and instead formally incorporates ill-defined, subjective ESG concepts into ERISA regulations." They claim that "[a]s a practical matter, the 2022 Rule will not only loosen the statutory and regulatory restraints on fiduciaries to consider ESG factors, it will allow fiduciaries and investment managers to potentially substitute their own ESG policy preferences under the guise making a risk-return determination about an investment or investment course of action." That outcome, plaintiffs contend, will undermine key ERISA protections safeguarding more than $12 trillion in retirement savings of 152 million workers.

The plaintiffs also assert that the DOL exceeded its authority under 29 U.S.C. § 1135, which authorizes the Secretary of Labor to issue regulations necessary or appropriate to carry out the provisions of ERISA, in contravention of the Major Questions Doctrine. Under that doctrine, the U.S. Supreme Court rejected federal agency claims of regulatory authority when (1) the underlying claim of authority concerns an issue of vast economic and political significance, and (2) Congress has not clearly empowered the agency with authority over the issue. The plaintiffs argue that the DOL is "claiming the authority to do what the EPA cannot, through commandeering the power of trillions of dollars in assets saved through ERISA to pursue the current administration's preferred climate objectives."¹ 

And, in addition to asking the Court to postpone the effective date of the new rule, the plaintiffs further claim that the new ESG rule is an arbitrary and capricious exercise of administrative power by the Department in violation of the APA, and that the challenged portions of the rule are integral and non-severable from the remainder of the rule. Plaintiffs say that granting the relief requested would nullify the rule in its entirety.  

Whether the states have standing to challenge the new rule is unclear. In 2021, the U.S. Supreme Court held that Texas and 17 other states lacked standing to challenge the Affordable Care Act's (ACA) minimum essential coverage (MEC) individual mandate because the states did not show a past or future injury traceable to the defendants' allegedly unlawful conduct.² The states in that case alleged injury in the form of increased use of state-operated medical insurance programs and increased administrative expenses associated with the MEC provision. The Supreme Court rejected these arguments, finding that the states did not demonstrate the unenforceable MEC mandate would cause residents to enroll in state health plans, and that the complained-of administrative costs were imposed by other ACA provisions, not the MEC mandate. In Utah v. Walsh, it remains to be seen whether the standing of the four non-state plaintiffs, if established, has any impact on the states' ability to pursue their claims. 

The Utah v. Walsh plaintiffs are not alone in voicing objections to the new ESG rule. In a recent speech, U.S. Securities and Exchange (SEC) Commissioner Mark Uyeda criticized the rule, stating that the DOL was "speaking with a forked tongue," which he suggested was "the hallmark of acting in an arbitrary and capricious manner." Uyeda aimed his criticism at purported differences between the ESG amendments' regulatory text and what DOL officials have stated publicly in press releases describing the significance of the new rule. In a speech on Friday before the American Bar Association's Labor and Employment Section's Employee Benefits Committee, Lisa M. Gomez, Assistant Secretary of DOL's Employee Benefits Security Administration (EBSA), stated that there has been a lot of misinformation about the rule and "plans are never supposed to consider [ESG factors] while sacrificing risk or return." On Capitol Hill, efforts are underway in both the House and Senate in opposition to the new rule, including possible review under the Congressional Review Act, and some have raised the prospect of calling asset managers to testify at oversight hearings.

Any decision in Utah v. Walsh can be appealed to the Court of Appeals for the Fifth Circuit, which has not looked kindly upon the DOL in ERISA matters in recent years. That court vacated the DOL's fiduciary rule and related exemptions in 2018 and just last August affirmed a ruling (by the same district court hearing the Utah v. Walsh case) that vacated as arbitrary and capricious an advisory opinion addressing ERISA coverage.

The district court did not delay the rule's effective date, and the DOL has not issued any temporary enforcement policy or compliance assistance publications. Hence, the rule is currently in effect, but that could change if the district court or the DOL postpones its implementation and enforcement while the legal challenge is pending.

For more information, please contact:

Joanne Roskey, jroskey@milchev.com, 202-626-5847 

Dawn E. Murphy-Johnson*

*Former Miller & Chevalier attorney

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¹ Although the Supreme Court has traditionally applied the major questions doctrine sparingly in merits cases, the Court seemed to embrace the doctrine fully in West Virginia v. EPA, 142 S. Ct. 2587 (June 30, 2022). In that case, the Supreme Court held that the Environmental Protection Agency's (EPA) efforts to regulate greenhouse gases by making industry-wide changes violated the major questions doctrine because Congress did not clearly give to the EPA that vast authority. Commentators immediately seized on the Court's decision as a roadmap to challenge the DOL's then-pending ESG amendments.

² California v. Texas, 141 S. Ct. 2104 (2021). The Court held the individual plaintiffs claims also lacked standing because the 2017 amendments to the challenged MEC provision reducing the penalty for non-compliance to $0 rendered the provision unenforceable. The individual plaintiffs in that case claimed they suffered particularized individual harm in the form of past and future payments necessary to carry the MEC. Because the penalty reduction rendered the MEC provision unenforceable, the individual plaintiffs could not demonstrate any injury from the allegedly unconstitutional provision they were attacking. They could not show "any kind of Government action or conduct has caused or will cause the injury they attribute the [MEC provision]." The non-governmental plaintiffs in the ESG lawsuit are not similarly situated in that the ESG regulation does not suffer from the same enforcement obstacles. They allege injuries traceable to the challenged regulation in the form of, among other things, increased expenditure of time and resources needed to monitor investment advisor recommendations, increased funding costs, less access to capital markets and institutional investments, and, in the case to the individual plaintiff, increased risk to his retirement benefits resulting from the increase in discretion the rule allegedly affords plan fiduciaries and advisors making plan investment decisions.

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