The role and position of the European Taxonomy in the ESG regulatory framework
The EU taxonomy is a classification system, establishing a list of environmentally sustainable economic activities. The EU’s goal is that this classification system will be the corner stone for the development of sustainable investments and implementation of the European Green Deal. The aim is to fight greenwashing and make sure that significant investments oriented towards sustainable investment serve activities that are genuinely environmentally sustainable.
In addition to the classification, the Taxonomy Regulation extends the existing disclosure obligations under the Non Financial Reporting Directive (‘NFRD’) and the Sustainable Finance Disclosure Regulation (‘SFDR’). As a result, companies and asset managers will have to report the percentage of their turnover, capital expenditures and operational expenditures aligned with the EU taxonomy.
Asset managers will also have to report the percentage of their portfolio invested in activities aligned with the EU taxonomy. The Taxonomy Regulation does not impose any obligation on companies or investors to invest (even partially) in sustainable taxonomy aligned activities. It adopts a comply or explain principle based on disclosure regarding the taxonomy alignment of a company’s activities or of financial products. However, it is expected that the EU definition of sustainable investment will become an increasingly important benchmark for future investments. As a matter of example, the existing voluntary standards for Green Loans or Green Bonds, such as LMA or ICMA-standards are not linked to the EU Taxonomy definition of sustainable investment. The EU Commission is currently working on a voluntary EU Green Bond Standard which would require the raised funds to be allocated only to taxonomy aligned projects.
Taxonomy aligned sustainable activities
The Taxonomy Regulation establishes four conditions for an activity to be considered sustainable. The activity:
1. must contribute substantially to at least one of the six environmental objectives defined in Article 9 of the Taxonomy Regulation.
Currently, the following six environmental objectives are included in the EU Taxonomy Regulation: (i) climate change mitigation; (ii) climate change adaptation, (iii) sustainable use and protection of water and marine resources, (iv) transition to a circular economy, (v) pollution prevention and control, (vi) protection and restoration of biodiversity and ecosystem.
2. may not significantly harm any other environmental objective listed in 1
3. must meet minimum social standards
For an economic activity to be considered taxonomyaligned the activity must be caried out in compliance with the minimum safeguards (social standards) laid down in the OECD Guidelines for Multinational Enterprises and the UN Guiding Principles on Business and Human Rights, including the principles and rights set out in the Declaration of the International Labour Organisation on Fundamental Principles and Rights at Work, the eight fundamental conventions of the ILO and the International Bill of Human Rights.
4. must comply with the technical screening criteria established by the Commission (the “TSCs”).
Recently, the EU Taxonomy Climate Delegated Act implementing the TSC for the first two environmental objectives has been published in the EU Official Journal. This long-awaited publication was the last requirement preventing the additional disclosure obligations imposed by the Taxonomy Regulation from being applied in practice.
Currently only for the first two objectives there are technical screening criteria available, enabling market participant to in concreto assess for approximately 102 activities whether they meet the required technical standards to substantially contribute to one of the first two environmental objective and / or not significantly harm any of the other objectives. Several Real Estate activities are already included in this first list with TSCs.
What are the Construction and Real Estate activities that are taxonomy aligned?
Draft TSC are available for the following Real Estate activities for which it is therefore possible to assess under which conditions these activities are EU taxonomy aligned:
- construction of new buildings;
- renovation of existing buildings;
- acquisition and ownership of buildings; and installation, maintenance and repair of some specific energy related infrastructure such as (i) energy efficiency equipment, (ii) charging stations for electric vehicles in buildings (and parking spaces attached to buildings), (iii) instrument and devices for measuring, regulation and controlling energy performance of buildings, and (iv) renewable energy technologies.
Below we explore some of the conditions put forward for the above Real Estate activities to be taxonomy-aligned, with a specific focus on the requirements regarding climate mitigation.
Construction of new buildings
Construction of new buildings contributes to climate change mitigation if the new building benefits from a very low energy performance (10% lower than the threshold set for the nearly zero-energy building requirements in national measures) confirmed in an Energy Performance Certificate, testing for airtightness and thermal integrity (and to be disclosed to investors and clients).
Moreover, the new buildings must meet so-called “do no significant harm” criteria in the field of climate adaptation, water, circular economy, pollution prevention and biodiversity.
To substantially contribute to the climate change adaptation objective, new buildings should amongst others implement physical and non-physical solutions (‘adaptation solutions’) that substantially reduce the most important physical climate risks that are material to that activity. For the physical climate risks that are material a robust climate risk and vulnerability assessment should be performed.
Renovation of existing buildings
To substantially contribute to climate change mitigation, a building renovation should comply with the applicable requirements for major renovations as set in the applicable national and regional building regulations for ‘major renovation’ implementing Directive 2010/31/EU. Alternatively, the renovation must lead to a reduction of primary energy demand (PED) of at least 30%. The 30% improvement results from an actual reduction in primary energy demand (where the reductions in net primary energy demand through renewable energy sources are not taken into account) and can be achieved through a succession of measures within a maximum period of three years. As far as climate change adaptation is concerned, the renovation of a building must meet the same requirements as the construction of a new building.
Acquisition and ownership of buildings
When buying real estate and exercising ownership of real estate, the EU taxonomy requires that buildings built before 31 December 2020 have at least an Energy Performance Certificate (EPC) class A to substantially contribute to climate change mitigation. Properties that belong to the top 15% of the national or regional building stock expressed as operational Primary Energy Demand will also be considered as sustainable. For buildings built after 31 December 2020, the building must meet the criteria as specified for new buildings at the time of the acquisition. A large non-residential building (with an effective rated output for heating systems, systems for combined space heating and ventilation, air-conditioning systems or systems for combined air-conditioning and ventilation of over 290 kW) is considered as being efficiently operated through energy performance monitoring and assessment.
Installation, maintenance and repair of energy efficiency equipment
Installation, maintenance and repair of energy efficiency equipment contribute to climate change mitigation when (i) they comply with minimum requirements set for individual components and systems in the applicable national measures implementing Directive 2010/31/EU and (ii) the installation consists of addition of insulation to existing envelope components, such as external walls (including green walls), roofs (including green roofs), lofts, basements; replacement of existing windows or doors with new energy efficient windows or doors; installation and replacement of energy efficient light sources; installation, replacement, maintenance and repair of HVAC and water heating systems, highly efficient technologies; …
Installation, maintenance and repair of charging stations for electric vehicles in buildings (and parking spaces attached to buildings)
As an “enabling activity” the installation and maintenance of charging stations for electric vehicles in buildings and parking spaces can substantially contribute to climate change mitigation if the activity:
- does not lead to a lock-in of assets that undermine long-term environmental goals, considering the economic lifetime of those assets; and
- has a substantial positive environmental impact, on the basis of life-cycle considerations.
While not required to substantially contribute to climate change mitigation, for this activity to substantially contribute to climate change adaptation the charging stations cannot be installed in buildings dedicated to extraction, storage, transport or manufacture of fossil fuels.
Installation, maintenance and repair of instruments and devices for measuring, regulation and controlling energy performance of buildings.
This activity includes individual measures such as installation, maintenance and repair of:
- zoned thermostats, smart thermostat systems and sensing equipment, including motion and day light control;
- building automation and control systems, building energy management systems (BEMS), lighting control systems and energy management systems (EMS);
- smart meters for gas, heat, cool and electricity; and
- façade and roofing elements with a solar shading or solar control function, including those that support the growing of vegetation.
For the applicable technical requirements, see more information in the EU Taxonomy Compass (see below).
Installation, maintenance and repair of renewable energy technologies
This concerns individual measures such as the installation, maintenance and repair of:
- solar photovoltaic systems and the ancillary technical equipment;
- solar hot water panels and the ancillary technical equipment;
- wind turbines and the ancillary technical equipment;
- heat exchanger/recovery systems;
For the applicable technical requirements, see more information in the EU Taxonomy Compass (see below).
What is the EU Taxonomy Compass?
To make the contents of the EU Taxonomy legislation more accessible, the EU Commission launched the EU Taxonomy Compass. This practical tool provides a visual representation of the contents of the EU Taxonomy.
For the activities already included in the first EU Taxonomy Climate Delegated Act it enables users to check which activities are taxonomy-eligible activities, to which objectives they substantially contribute and what criteria they have to meet, as well as under which conditions the activity at hand does not significantly harm any of the other environmental objectives.
The EU Taxonomy Compass will be updated to include future delegated acts specifying technical screening criteria for additional economic activities substantially contributing to the climate objectives and the other environmental objectives of the Taxonomy Regulation as soon as the required TSCs are agreed upon.
You can access the EU Taxonomy Compass to check the sustainability conditions applicable to all the Real estate activities listed above at the following weblink.