DOL's outgoing Ali Khawar says ESG, fiduciary rules were needed

Two of the Employee Benefits Security Administration’s most impactful rulemakings under the Biden administration — one that stipulates that retirement plan fiduciaries can consider ESG factors when selecting investments, and another that makes it so one-time advice, such as rollovers to individual retirement accounts, must be in the investor’s best interest — are prudent and necessary, according to Ali Khawar, EBSA’s principal deputy assistant secretary.

Khawar, who’s held many roles at the Department of Labor’s EBSA across multiple administrations, including EBSA investigator, chief of staff and counselor to former Labor Secretary Thomas E. Perez, led EBSA at the start of the Biden administration on an acting basis until September 2022. After Lisa M. Gomez’s Senate confirmation, he moved into the EBSA’s No. 2 role.

As a political appointee, he will leave the agency on Jan. 20 when President-elect Donald Trump is sworn in for a second term. Khawar told Pensions & Investments he doesn’t yet know his next career move.

But he did have much to say on two key rules that EBSA issued in the Biden administration.

EBSA in 2022 finalized a rule specifying that retirement plan fiduciaries could consider ESG factors when making investment decisions and exercising shareholder rights.

The rule was needed, DOL officials have said, because late in the Trump administration the department issued a rule stating that plan fiduciaries could not invest in "non-pecuniary" vehicles that sacrifice investment returns or take on additional risk.

Khawar noted that the Biden administration’s rule also makes clear that fiduciaries cannot sacrifice returns or take on additional risk, but the Trump rule, and especially the proposal on which it was based, established a viewpoint that ESG consideration was improper.

“The atmospherics and the verbiage, particularly in the proposal, really served to tell people that ESG was not OK,” Khawar said on the Trump-era rule.

EBSA under the Biden administration was focused on issuing a rule on ESG consideration that was neutral and would halt the regulatory ping-pong from administration to administration, Khawar said.

“You will not see in that rule if you read it carefully … and you read it in an unbiased way, you will not see promotion of ESG in an inappropriate manner,” Khawar said. “You will see something that says where it makes sense, you can take it into account and you’re not violating your fiduciary obligations. And the same is true for literally every other investment philosophy. And that’s the lesson you can take from that final rule, so I think our approach made a lot of sense.”

The political discourse around ESG investing has ramped up in recent years and the DOL’s rule has faced legal pushback from Republican attorneys general.

A federal judge in 2023 upheld the rule, but the attorneys general filed an appeal on narrower grounds in January and the case is before the 5th U.S. Circuit Court of Appeals in New Orleans.

The incoming Trump administration is seen as anti-ESG, and sources expect a new rulemaking effort on the subject. Of note, Rep. Lori Chavez-DeRemer, R-Ore., President-elect Donald Trump’s pick to run the Department of Labor, supported a resolution in February 2023 to overturn the Biden administration’s rule.

President Joe Biden later vetoed that resolution.

But Khawar contends that the rule is neutral and considering ESG factors is part of a prudent fiduciary process.

“The question isn’t are you pro-ESG or anti-ESG, the question really should be are you pro or against maximizing risk-adjusted net returns?” Khawar said. “And if you are, then what we said in our rules is that investors should use whatever tools are going to get them to the best answer that they can.”

He added, “In the same way that I don’t have a crystal ball, investors don’t either. They have to engage in a prudent process that is best positioning them to get to that point.”

Arguably the most consequential rule issued by EBSA during the Biden administration is its Retirement Security Rule, which was finalized in April and, among other things, made it so one-time advice, such as rollovers to IRAs or annuity purchases, must be in an investor’s best interest.

The Retirement Security Rule is narrower in scope, DOL officials have said, than a 2016 Obama-era rule that significantly broadened the definition of a person or entity taking on fiduciary responsibilities when providing investment advice.

The 2016 rule was struck down in federal court in 2018 and the Trump administration elected not to appeal that decision.

However, in the waning days of the Trump administration, the DOL in 2020 issued PTE 2020-02, an exemption that permits investment advice fiduciaries to receive compensation for more types of guidance that are otherwise prohibited under ERISA, such as rollover recommendations, so long as they comply with the exemption's conditions, which include care and loyalty obligations and conflict-of-interest mitigation.

The Retirement Security Rule is needed, Khawar said, to better protect retirement savers and to reduce conflict of interests in the advice space.

“If people don’t think those institutions are looking out for them, they’re not going to seek advice,” Khawar said. “And advice is important; we want people to seek advice.”

Insurance and annuity groups have challenged the rule and after two District Court judges in July halted the rule’s implementation, the lawsuits are now before the 5th U.S. Circuit Court of Appeals in New Orleans.

But regardless of what the courts decide, the Trump administration will need to do something on fiduciary investment advice, Khawar said.

“In the universe where the court strikes it down,” he said of the Retirement Security Rule, “I’m not sure that the next administration is … going to be able to not do anything here and leave it as it is. Because there are a lot of reasons why further action is needed. And in the same way that we saw in the Trump administration an effort to address this problem in not dissimilar ways once you focus on the core of it, it actually is quite consistent administration to administration. It’s a very market-driven solution rather than a top-down government solution.”