What is the EU Taxonomy?
Clients are beginning to ask questions about the EU Taxonomy - what is it and does it apply to your business? We wanted to provide a quick overview and some resources that can help your company answer questions about this somewhat complicated ESG reporting standard unfolding in Europe.
The EU Taxonomy is a classification system intended to be used to categorize which economic activities are environmentally sustainable based on a standard set of criteria. The European Union (EU) created this classification system in June 2020 to combat greenwashing in the financial services industry and to help scale up investment in more sustainable activities. The idea is to help drive more investor dollars towards environmentally sustainable projects and companies by using a science-based transparency approach and developing a common language for companies, investors, and policymakers. Specifically, environmentally sustainable economic activities are described as those which make a substantial contribution to at least one of the EU’s six climate and environmental objectives:
Source: EU Taxonomy Navigator
These objectives help work towards the EU’s climate and energy targets for 2030 as well as the European Green Deal’s net zero by 2050 target.
In order for projects to qualify as environmentally sustainable, four overarching conditions must be met:
Making a substantial contribution to at least one environmental objective
Doing no significant harm to any of the other five environmental objectives
Complying with minimum safeguards
Complying with the technical screening criteria set out in the Taxonomy delegate acts
So who does this apply to?
Until a few months ago, the Non-Financial Reporting Directive (NFRD) rules guided which companies are required to publish sustainability information in the EU. The new rules of the Corporate Sustainability Reporting Directive (CSRD) entered into effect January 2023 and replaced the NFRD rules. Under this new directive, all large EU-based companies and select small/medium sized companies that are public-interest undertakings (such as listed on a regulated EU stock market, specific financial services companies, or designated as a public interest entity) will be required to report on sustainability– about 50,000 companies. These companies will be required to report according to the European Sustainability Reporting Standards (ESRS) expected to be released by September 2023.
Here are some key points to understand if your company operates in the EU:
The new standards and rules will apply for reports published in 2025 covering activities in 2024.
Companies will be required to have an audit of the sustainability information that they disclose.
Companies that fall under the scope of the CSRD have to report to what extent their activities are covered by the EU Taxonomy.
Non-EU companies that operate in the EU will be subject to these sustainability reporting requirements if they have a net turnover of more than EUR 150 million in the EU and have a subsidiary undertaking or office in the EU.
Many third-party rating agencies and reporting frameworks plan to integrate EU Taxonomy requirements into their products. For example, CDP is piloting the integration of questions related to the EU Taxonomy into their questionnaire focused on the climate change mitigation and adaptation objectives.
Source: Latham & Watkins
Some companies that do not fall under the scope of the CSRD may still decide to voluntarily follow the guidance laid out by the EU Taxonomy to access sustainable financing. Others may do so because EU-based competitors will be reporting to these standards and they don’t want to lag behind their peers. Don’t hesitate to reach out to us at SustainabilityNext if you’d like help navigating through this complex reporting environment.
Resources/tools:
EU Taxonomy Navigator (includes Compass and Calculator)