Blog | EU Taxonomy

EU Taxonomy

‍

The European Union’s taxonomy for sustainable activities (1) is a classification system that defines which economic activities are environmentally sustainable. Its goal is to help to avoid greenwashing and enable investors to make informed sustainable investment decisions.

‍

The target groups of the EU taxonomy are on the one hand companies who disclose the alignment of their activities with the taxonomy and on the other hand financial market participants who disclose the alignment of their investments with the taxonomy. The taxonomy came into force in July 2020. Reporting started in 2022 when the first set of companies disclosed the proportion of Taxonomy-eligible and Taxonomy non-eligible economic activities in their total turnover, capital and operational expenditure.

‍

In order for an activity to meet the definition of sustainable, it must contribute substantially to one of six environmental objectives (2) while not significantly harming any of the remaining ones. This is determined using the so-called technical screening criteria.

‍

These six environmental objectives are:

‍

1) climate change mitigation,

2) climate change adaptation,

3) sustainable use and protection of water and marine resources,

4) transition to a circular economy,

5) pollution prevention and control, and

6) protection and restoration of biodiversity and ecosystems.

‍

Carbon emissions are covered by the objective climate change mitigation. At a high level, economic activities that qualify as contributing substantially to the climate change mitigation are based around avoiding emissions, reducing emissions and increasing greenhouse gas removals and long-term carbon storage. The technical screening criteria lay out detailed requirements for a wide range of activities ranging from afforestation to manufacturing of iron and steel, and research and development of direct air capture of CO2. Reporting this data can require sophisticated carbon calculation and modeling capabilities which many companies do not possess yet.

‍

Which activities should be considered environmentally sustainable can be a contentious issue. This became especially clear during the debate about natural gas and nuclear energy (3). They were ultimately included in the taxonomy provided a number of conditions were fulfilled.

‍

In addition, an activity must comply with minimum safeguards (4). Those are composed of criteria which need to be fulfilled across four dimensions: human rights (incl. labor and consumer rights), bribery/corruption, taxation, and fair competition. For example, a company would fail to fulfill the human rights safeguards if it has not established an adequate human rights due diligence process as outlined in the UN Guiding Principles and OECD Guidelines for Multinational Enterprises.

‍

It is important to note that there are no mandatory requirements regarding environmental performance. Companies may still pursue activities that are not deemed sustainable and investors may still invest in them. Instead, the idea is that transparency and a common classification will encourage a transition towards sustainability over time.

‍

The Taxonomy will primarily be applied in conjunction with other regulations. The NFRD, CSRD and SFRD encompass a wide range of disclosure requirements and to do so, apply the classification laid out by the taxonomy. This relationship is illustrated in figure 2.

‍