ESOP Pass-Through Voting and the New DOL Guidance on Proxy Voting

The issue of whether trustees can and should override participant directions on offers to buy shares in a proposed acquisition of an ESOP company has  been one of the most ambiguous areas of ESOP law and practice. New guidance from the U.S. Department of Labor (DOL) (29 CFR 2550.404a-1) on proxy voting of shares in retirement plans, including on environmental, social, and governance metrics, includes a brief section addressing this issue, essentially putting into regulatory form what had been just guidance.  

The new DOL guidance reaffirms that trustees “must not subordinate the interests of the participants and beneficiaries in their retirement income or financial benefits under the plan to any non-pecuniary objective, or promote non-pecuniary benefits or goals unrelated to these financial interests of the plan’s participants and beneficiaries.”

The new final rule includes “an express provision in new paragraph (e)(5) stating that the final rule does not apply to voting, tender, and similar rights with respect to such securities that are passed through pursuant to the terms of an individual account plan to participants and beneficiaries with accounts holding such securities. That should not be read as an indication that plan trustees and other plan fiduciaries do not have fiduciary obligations with respect to such practices. Prior Department guidance recognized that in certain circumstances a trustee may follow the instructions of participants in an eligible individual account plan that expressly states that a trustee is subject to the direction of plan participants with respect to certain decisions regarding the management of their account. In such a case, under section 403(a)(1) of ERISA, the trustee must follow the direction of participants if those directions are proper, made in accordance with plan terms, and not contrary to ERISA. Plan trustees and other fiduciaries would continue to have to comply with ERISA’s prudence and loyalty provisions with respect to the pass through of votes to plan participants and beneficiaries, and can continue to rely on the Department’s prior guidance with respect to such participant-directed voting, including 29 CFR 2550.404c-1 implementing ERISA section 404(c)(1) to participant-directed pass-through voting.”

So what should ESOP companies and trustees do? In practice, it is exceedingly rare for employees to vote no on a good offer, and there is no litigation in closely held companies where this has been an issue. That does not make the issue moot, however. A company may want to implement pass-through voting either because it believes in the concept philosophically and/or because it creates one more hurdle for a would-be acquirer that the company and maybe the employees would prefer to sell to. If this situation arises, make sure employees get detailed, unbiased information concerning the sale and that the buyer knows what is involved.