On September 4, 2020, the U.S. Department of Labor (DOL) issued another proposed amendment to regulations under Section 404(a) of ERISA (the “Investment Duties” regulations, which describe ERISA’s general fiduciary standards).¹ This most recent proposal addresses the exercise of shareholder rights by fiduciaries, including proxy voting, the role of proxy voting policies and guidelines, and the selection and monitoring of proxy advisory firms.

If adopted as proposed, the regulation would provide that ERISA fiduciaries:

• must vote proxies where the fiduciary prudently determines that the matter being voted upon would have an economic impact on the plan after taking into account the costs involved;
• must not vote any proxy unless the fiduciary prudently determines that the matter being voted upon would have an economic impact on the plan after taking into account the costs involved; and
• may adopt a “permitted practices” approach to voting proxies, thereby somewhat altering the foregoing “absolute” requirements, as described in further detail below.

Under the proposal, when determining whether and how to vote, a fiduciary must:

• act solely in the economic interest of the plan, considering only factors that will affect the economic value of the plan’s investment;
• consider the impact of voting on the plan based on factors such as the size of the plan’s holdings in the issuer relative to the total value of the plan’s assets, the plan’s percentage ownership of the issuer, and the costs involved in determining how to vote;
• not promote goals unrelated to the financial interests of the plan’s participants and beneficiaries;
• investigate material facts that form the basis for any proxy vote;
• maintain records of voting activities, including records that demonstrate the basis for each particular proxy vote; and
• exercise prudence and diligence in selecting and monitoring any persons who the fiduciary uses to advise or otherwise assist with exercises of shareholder rights, such as providing research and analysis, recommendations regarding proxy votes, administrative services with voting proxies, and recordkeeping and reporting services.

According to the DOL, certain voting proposals may require a more detailed or particularized voting analysis, and relevant factors may include the cost of voting, the type of proposal (e.g., social or public policy matters versus those with direct economic impacts), the voting recommendations of management, and an analysis of the particular proposal’s shareholder proponents. Fiduciaries would be required to maintain documentation of the rationale for proxy voting decisions sufficient to demonstrate that the decision was based on the expected economic benefit to the plan and solely on the interests of participants and beneficiaries in obtaining financial benefits under the plan.

The DOL makes clear that “[t]he fiduciary may not adopt a practice of following the recommendation of a proxy advisory firm or other service provider without appropriate supervision and a determination that the service provider’s proxy voting guidelines are consistent with the economic interests of the plan…”. Fiduciaries should require documentation of the rationale for proxy-voting decisions so that they can periodically monitor proxy-voting decisions made by third-parties, and a plan fiduciary must also assess and monitor an investment manager’s use of any proxy advisory firm. When using a proxy advisory firm, fiduciaries should assess whether that firm is able to competently analyze proxy issues, identify and address potential conflicts of interest faced by the firm, and adhere to the plan’s proxy voting policy guidelines, which guidelines must be made available to plan participants.

In order to lessen the burden placed on ERISA fiduciaries, the proposal provides that an ERISA plan’s voting policies may adopt general proxy voting policies or parameters reasonably designed to serve the plan’s economic interest. The proposal provides examples of “Permitted Practices” that would be deemed to be prudent, including:

• a policy of voting proxies in accordance with the voting recommendations of management of the issuer on proposals or particular types of proposals that the fiduciary has prudently determined are unlikely to have a significant impact on the value of the plan’s investment, subject to any conditions determined by the fiduciary as requiring additional analysis because the matter being voted upon may present heightened management conflicts of interest or is likely to have a significant economic impact on the value of the plan’s investment;
• a policy that voting resources will focus only on particular types of proposals that the fiduciary has prudently determined are substantially related to the corporation’s business activities or likely to have a significant impact on the value of the plan’s investment, such as proposals relating to corporate events (mergers and acquisitions transactions, dissolutions, conversions, or consolidations), corporate repurchases of shares (buy-backs), issuances of additional securities with dilutive effects on shareholders, or contested elections for directors; and
• a policy of refraining from voting on proposals or particular types of proposals when the plan’s holding in a single issuer relative to the plan’s total investment assets is below a quantitative threshold that the fiduciary prudently determines, considering its percentage ownership of the issuer and other relevant factors, is sufficiently small that the outcome of the vote is unlikely to have a material impact on the investment performance of the plan’s portfolio (or investment performance of assets under management in the case of an investment manager).

While such “permitted practices” could serve as a general default approach to proxy voting when applicable, they could be overridden in cases where the fiduciary’s duties so required it in a particular case (e.g., where a matter would usually not be voted under the “permitted practice”, but the particular matter was in fact determined by the fiduciary to have an economic impact on the plan). In addition, a fiduciary would be required to review and “permitted practices” policies at least once every two years.

The proposed regulation also provides that an investment manager of a pooled vehicle that is subject to ERISA must comply with the investment policies of all underlying plans, unless it maintains its own policy, which must be consistent with the requirements of Title I of ERISA, and requires ERISA plan investors to “accept the investment manager’s investment policy, including any proxy voting policy, before they are allowed to invest.”

If this proposed regulation could affect your business, you may comment on the proposal on or before October 5, 2020.

If you would like our assistance in commenting on the proposal, or if you have any questions on the matter, please contact, S. John Ryan at (212) 574-1679, Michael O’Brien at (212) 574-1505, or Bradley Fay at (212) 574-1429.