On July 6 2021, the EU Commission published the final and complete version of the Delegated Act of the Taxonomy Regulation. This means that we now know exactly which financial activities will be classified as sustainable – and what has to be done to align an economic activity with the EU Taxonomy.
As is often the case with the new regulations, preparation is key. That is why we have created this six-steps-guide to help you align to the EU Taxonomy with ease. Let's get started!
What is the EU Taxonomy?
The EU Taxonomy is a classification system that translates the EU’s climate and environmental objectives into criteria for specific economic activities for investment purposes. The Taxonomy’s Delegated Acts establish clear technical criteria of what activities contribute to the sustainable transition. The EU Taxonomy will enter into force on January 1, 2021.
Step 1. Identify Eligible Business Activities That Can be Aligned with the EU Taxonomy
The first step of the process is to determine which economic activities are “eligible”, that is, covered by the Taxonomy. The first delegated act, which will start applying from January 2022, targets the first two environmental objectives; climate change mitigation and climate change adaptation. It sets criteria for economic activities in sectors with the highest contribution to CO2 emissions and thus are most significant for delivering climate change adaptation and mitigation. These sectors include energy, forestry, manufacturing, transport and buildings.
A common misconception is that the sectors which have not been included in the first delegated act will not be considered sustainable by the EU commission. It is important to highlight that this is not the case, rather, appropriate screening criteria have yet to be made for these sectors and will be included in more delegated acts to come. The EU Taxonomy is a living document that will gradually develop and improve over time.
Step 2. Technical Screening Phase: Check if the Economic Activity Meets the EU Taxonomy’s Criteria
For an economic activity to be recognized as “green” by the EU Taxonomy, it has to comply with the following technical screening criteria:
Make a substantial, rather than a marginal, contribution to at least one environmental objective;
Do no significant harm to any other environmental objective;
Meet minimum social safeguards
The following steps will walk you through what these criteria mean and what action is needed to reach these objectives.
Step 3. Make a substantial, rather than a marginal, contribution to at least one environmental objective
The EU Taxonomy is set to be an essential tool to reach the objectives of the European Green Deal. Given the huge investment needed and the necessary broad transformation of the EU’s economy to successfully achieve the green deal objectives – a lot has to be done. That is why the EU Taxonomy’s screening criteria are precise, quantifiable and developed to align with the level of ambition necessary for a sustainable transition to be able to occur. The EU Taxonomy states that an economic activity must substantially contribute to at least one of the EU’s six environmental objectives.
The EU Taxonomy’s Six Environmental Objectives
Step 4. Do No Significant Harm to Any Other Environmental Objective
Okay, so this is the part where it might get tricky. As mentioned above, the first delegated act sets criteria for the first two objectives (climate change mitigation and climate change adaptation). The remaining four objectives (sustainable use and protection of water and marine resources; transition to a circular economy; pollution prevention and control; protection and restoration of biodiversity and ecosystems) will be covered in other delegated acts which are expected to apply from January 2023. However, even though the first delegated act focuses on the two first environmental objectives, the EU Taxonomy states that economic activities can’t be classified as sustainable if they cause harm to any of the other objectives.
To sum it up, this criteria implies that the economic activity must actively and substantially contribute to climate change adaptation and mitigation, without causing any significant harm to the other environmental objectives.
Step 5. Meet Minimum Social Safeguards
Another common misconception is that the EU Taxonomy is all about climate change and environmental objectives. However, the “meet minimum social safeguards” criteria implies that an economic activity can only be considered Taxonomy-aligned if it meets safeguards in the areas of minimum international human and labor rights. This means that issuers must conduct due diligence to avoid any negative impacts and comply with the human and labour rights standards presented in the OECD guidelines, UN Guiding Principles on Business and Human Rights, and Labour Rights conventions. The human rights and anti-corruption policies and progress are to be communicated in the annual sustainability reports.
The Technical Screening Phase Visualized. Source: BNEF
Step 6. Calculate Your Alignment with the EU Taxonomy
When the conditions above are met, then it’s time to calculate and report the degree of EU Taxonomy alignment through percentage. The disclosure for non-financial businesses must include the proportion of turnover aligned with the Taxonomy. In addition, other KPIs, such as capital expenditure (CapEx) and operational expenditure (OpEx) are to be included as well, that is – if considered relevant.
For financial market participants, the disclosure must explain how, and to what extent, they have used the Taxonomy in determining the sustainability of the underlying investments. They must also disclose to what environmental objective(s) the investment contributes to, and the proportion of underlying investments that are Taxonomy-aligned as a percentage of the investment, fund or portfolio.
To summarize, if the economic activity is “eligible” by the EU Taxonomy, it has to comply with the three technical screening criteria; make a substantial contribution to at least one environmental objective; do no significant harm to any other environmental objective; and meet minimum social safeguards. Thereupon, entities are to calculate and report the percentage of their turnover that is Taxonomy-aligned.
How Worldfavor can Ease Your Process
Yes, the EU Taxonomy does entail fairly complex requirements for companies that are affected by the regulation. However, with Worldfavor’s EU Taxonomy Solution, you will easily collect data on identified criteria, automate the analysis process and hitting goals to reach full alignments with the EU Taxonomy. Sounds like something your organization would benefit from? Don’t hesitate to contact our EU Taxonomy experts today and learn more about how your business will benefit from using the platform!