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The EU Taxonomy regulation

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THE GREEN DEAL AS THE BASIS FOR THE NEW ECONOMIC GROWTH STRATEGY IN THE EU

Climate change and environmental degradation are considered major threats of our time. By decoupling economic growth from resource use and ensuring no net emissions of GHG by 2050, the Green Deal aims to facilitate the transition to a resource-efficient, climate-resilient, and competitive economy in the EU. To achieve this, more capital needs to flow into sustainable activities. In pursuit of the objectives outlined in the Green Deal, the EU Taxonomy has been established as a framework to identify environmentally sustainable activities.

What role does the EU Taxonomy play in the EU's sustainability strategy?

The EU Taxonomy plays a central role in the EU's sustainability strategy as it defines when an economic activity – and subsequently an investment – is considered sustainable. This common language enables investors to compare companies in terms of their sustainability performance (i.e., it helps them identify "green" activities) and redirect their funds towards environmentally sustainable companies.

Who is affected by the EU Taxonomy?

All companies in the scope of the Non-Financial Reporting Directive (NFRD) are required to report on non-financial information as per the EU Taxonomy. The NFRD applies to companies with more than 500 employees. With the adoption of the Corporate Sustainability Reporting Directive (CSRD) in November 2022, a broader set of large companies, as well as listed small and medium-sized companies, will increasingly be affected and will hence have to report on sustainability matters.

When do companies need to report under the CSRD?

  • Financial year 2024: All large companies that are already required to report under the NFRD (reporting in 2025).
  • Financial year 2025: All other large companies that meet at least two of the following three criteria (reporting in 2026):
    • > 250 employees
    • > €20 million balance sheet total
    • > €40 million net turnover
  • Financial year 2026: All small and medium-sized listed companies that meet at least two of the following three criteria (reporting in 2027 with an opt-out until 2028):
    • > 10 employees
    • > €0.35 million balance sheet total
    • > €0.75 million net turnover
  • Financial year 2028: All non-European companies with a consolidated turnover in the EU exceeding EUR 150 million and an EU subsidiary with a net turnover of more than EUR 40 million.

THE EU TAXONOMY’S CENTRAL ROLE IN THE EU’S SUSTAINABILITY STRATEGY

When is an economic activity considered environmentally sustainable?

According to the EU Taxonomy, an economic activity is considered environmentally sustainable if it:
  • Makes a substantial contribution to one or more environmental objectives,
  • Does not cause significant harm to any of the other environmental objectives ("Do no significant harm / DNSH"),
  • Complies with minimum social safeguards, and
  • Meets the technical screening criteria.

Which environmental objectives does the EU Taxonomy define?

The EU Taxonomy is divided into the following six environmental objectives, each covered by a delegated act:
  • Climate change mitigation
  • Climate change adaptation
  • 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

Which criteria must be met for economic activities to make a substantial contribution to each environmental objective?

  • Substantial contribution to "Climate change mitigation": The economic activity must significantly contribute to stabilizing greenhouse gas concentrations in the atmosphere by avoiding or reducing greenhouse gas emissions in line with the Paris Agreement's "1.5-degree target" or by enhancing greenhouse gas storage.
  • Substantial contribution to "Climate change adaptation": This includes adaptation solutions that either substantially reduce the risk of the adverse impact of the current climate and the expected future climate on that economic activity or substantially reduce that adverse impact, without increasing the risk of an adverse impact on people, nature or assets.
  • Substantial contribution to "Sustainable use and protection of water and marine resources": The economic activity contributes to achieving good status of waters or preventing the deterioration of water quality.
  • Substantial contribution to "Transition to a circular economy": The economic activity significantly contributes to the transition to a circular economy, including waste prevention, reuse, and recycling.
  • Substantial contribution to "Pollution prevention and reduction": The economic activity significantly contributes to protecting against pollution by reducing or preventing emissions, improving air, water, or soil quality, avoiding adverse effects on human health or the environment from chemicals, or eliminating pollutants and waste.
  • Substantial contribution to "Protection and restoration of biodiversity and ecosystems": The economic activity contributes to the protection, preservation, or restoration of biodiversity or the achievement of a good state of ecosystems or the protection of ecosystems.
2022
To overcome the comprehensive threats of climate change and environmental degradation, Europe has adopted the Green Deal as a new strategy to promote growth while reducing greenhouse gas emissions and protecting the environment. As part of the effort to make the EU's economy sustainable, a new regulatory framework has been set up to help the financial market adjust to these challenges, and to direct capital flows towards sustainable activities.
2023
To overcome the comprehensive threats of climate change and environmental degradation, Europe has adopted the Green Deal as a new strategy to promote growth while reducing greenhouse gas emissions and protecting the environment. As part of the effort to make the EU's economy sustainable, a new regulatory framework has been set up to help the financial market adjust to these challenges, and to direct capital flows towards sustainable activities.
2024
To overcome the comprehensive threats of climate change and environmental degradation, Europe has adopted the Green Deal as a new strategy to promote growth while reducing greenhouse gas emissions and protecting the environment. As part of the effort to make the EU's economy sustainable, a new regulatory framework has been set up to help the financial market adjust to these challenges, and to direct capital flows towards sustainable activities.
2025
To overcome the comprehensive threats of climate change and environmental degradation, Europe has adopted the Green Deal as a new strategy to promote growth while reducing greenhouse gas emissions and protecting the environment. As part of the effort to make the EU's economy sustainable, a new regulatory framework has been set up to help the financial market adjust to these challenges, and to direct capital flows towards sustainable activities.
2026/2027
To overcome the comprehensive threats of climate change and environmental degradation, Europe has adopted the Green Deal as a new strategy to promote growth while reducing greenhouse gas emissions and protecting the environment. As part of the effort to make the EU's economy sustainable, a new regulatory framework has been set up to help the financial market adjust to these challenges, and to direct capital flows towards sustainable activities.

What is the difference between Taxonomy eligibility and Taxonomy alignment?

An economic activity is considered taxonomy-eligible if it is described in the delegated acts for the EU Taxonomy's environmental objectives. This means that the economic activity can potentially make a substantial contribution to an environmental objective.
An economic activity is considered taxonomy-aligned if it is covered in the delegated acts for the EU Taxonomy's environmental objectives (i.e. it is taxonomy-eligible) and meets the Technical Screening criteria, the "DNSH" criteria, and the associated Minimum Safeguards. An economic activity is considered sustainable only if it is taxonomy-aligned.

What are the Technical Screening criteria?

The technical screening criteria are scientifically founded, very technical and comprehensive criteria that must be met for an economic activity to achieve EU Taxonomy alignment. These criteria, which are listed in the delegated acts, aim to help companies make a significant positive impact on the environment or reduce their negative impact on the environment.

When is the "Do no significant harm" (DNSH) criterion met?

For an economic activity to be considered environmentally sustainable, it must not significantly harm any environmental objective. Whether significant harm has occurred is determined by predefined threshold values.

What role do "Minimum Safeguards" play?

To achieve EU Taxonomy alignment, an economic activity must also comply with specific social requirements and agreements. These comprise the OECD Guidelines for Multinational Enterprises and the United Nations Guiding Principles on Business and Human Rights, including core labor standards of the International Labor Organization (ILO) and the International Bill of Human Rights.

WHICH KEY PERFORMANCE INDICATORS (KPIs) DO COMPANIES HAVE TO REPORT?

Listed companies of the real economy subject to the NFRD first had to report on the EU Taxonomy eligibility of their economic activities for the fiscal year 2021. With the adoption of the CSRD, also small and medium-sized companies will increasingly fall under the non-financial reporting requirement and will hence have to report on the six environmental objectives described above. The following key performance indicators (KPIs) must be reported:
  • Turnover: The proportion of turnover from goods or services associated with environmentally sustainable economic activities.
  • CapEx: The proportion of capital expenditure (CapEx) related to assets or processes associated with environmentally sustainable economic activities.
  • OpEx: The proportion of operating expenditure (OpEx) related to assets or processes associated with environmentally sustainable economic activities.

How is the Revenue KPI calculated under the EU Taxonomy?

The Revenue KPI, as per the EU Taxonomy Regulation, is calculated as the proportion of the net turnover from goods or services associated with taxonomy-aligned activities (numerator) divided by the net revenue (denominator).

How is the CapEx KPI calculated under the EU Taxonomy?

The CapEx KPI is calculated as the proportion of capital expenditure associated with taxonomy-aligned activities (numerator) divided by the capital expenditure as defined in the EU Taxonomy (denominator). The numerator equals to the part of the capital expenditure included in the denominator that:
  • Relates to assets or processes associated with taxonomy-aligned economic activities, or
  • Is part of a plan to expand taxonomy-aligned economic activities or convert taxonomy-eligible economic activities into taxonomy-aligned economic activities ("CapEx Plan"), or
  • Relates to the purchase of output from taxonomy-aligned economic activities and individual measures enabling the target activities to become low-carbon or to lead to GHG reductions (particularly economic activities listed in 7.3 to 7.6), provided that these measures are implemented and operational within 18 months.
If capital and operating expenditures are included in the reporting as part of a CapEx Plan, the following criteria must be met:

Capital and operating expenditures are part of an investment plan, and
  • Aim to increase the company's green turnover or
  • Aim to report green turnover derived from economic activities for the first time (5-year time horizon, with exceptions of up to 10 years)
  • The plan is disclosed at the level of economic activities and approved by management.

How is the OpEx KPI calculated under the EU Taxonomy?

The OpEx KPI is calculated as the proportion of operating expenditures associated with taxonomy-aligned activities (numerator) divided by operating expenditures as defined in the EU Taxonomy (denominator). The numerator equals to the part of the denominator's operating expenditures that:
  • Relates to assets or processes associated with taxonomy-aligned economic activities, including training and other human resources adaptation needs, as well as direct non-capitalized costs that represent research and development;
  • Is part of a plan to expand taxonomy-aligned economic activities or convert taxonomy-eligible economic activities into taxonomy-aligned economic activities ("CapEx Plan"), or
  • Relates to the purchase of output from taxonomy-aligned economic activities and individual measures enabling the target activities to become low-carbon or to lead to GHG reductions (particularly economic activities listed in 7.3 to 7.6), provided that these measures are implemented and operational within 18 months.

HOW TO GATHER THE REQUIRED INFORMATION FOR REPORTING?

The process of obtaining the required information for reporting can be complex and time-consuming due to the large amount of data and the high level of detail required for the key performance indicators (KPIs). With that in mind, it is highly recommended to get a good understanding of the requirements as early as possible, even if the company is not yet subject to the EU Taxonomy or CSRD. It may also be a good idea to use a specialized software such as VIRIDAD's EU Taxonomy Solution, as it can significantly streamline the process for all involved parties.

Step 1: Eligibility Check

In the first step, companies need to determine which of their economic activities are covered by the EU Taxonomy and described in the delegated acts, respectively (and are thus taxonomy-eligible). To facilitate the mapping of a company’s economic activities to the activities covered in the delegated acts, NACE codes have been added to the activities. It is worth noting, however, that the actual coverage of the activity in the delegated acts is decisive for determining the eligibility of that activity.

Step 2: Alignment Check ("Three-Level Test")

After economic activities have been linked to the activities covered in the delegated acts, it must be checked whether they meet:
i.) the relevant criteria for making a substantial contribution to an environmental objective,
ii.) the "Do No Significant Harm (DNSH)" criteria, and
iii.) the Minimum Safeguards.
An economic activity is only taxonomy-aligned if this "Three-Level Test" yields a positive result.

Step 3: Calculation of Key Performance Indicators (KPIs)

In the next step, the key performance indicators (KPIs) are calculated in line with the EU Taxonomy requirements as described above.

Step 4: Reporting

The key performance indicators for turnover, CapEx, and OpEx make up the core of the reporting and must be published in a predefined tabular format. This table lists the respective environmental objective to which the economic activity contributes and shows the activity’s compliance with the DNSH as well as the Minimum Safeguard criteria. Transitional and enabling activities are marked as such. Aside from taxonomy-aligned activities, taxonomy-eligible activities must also be reported in the table.
In addition to this quantitative information, the regulation also requires the provision of qualitative information. This particularly includes an explanation of the used accounting method and of how turnover, CapEx, and OpEx were calculated (a referral to the relevant items of the financial statements needs to be made as well). Furthermore, the process of how EU Taxonomy alignment was determined must be explained, and how double-counting in the KPIs of turnover, CapEx and OpEx was avoided.

WHAT ARE THE BENEFITS FOR COMPANIES WITH HIGH LEVELS OF EU TAXONOMY ALIGNMENT?

The effort for gathering all the necessary data for non-financial reporting should not be underestimated. In fact, it can a very time-consuming and lengthy process as it requires the involvement of several internal departments as well as external stakeholders. Hence, there may be companies which see this process as bureaucratic and cumbersome. However, it should be noted that high levels of EU Taxonomy alignment may lead to reputational advantages, as well as favorable financing conditions and better access to public funding programs. To take advantage of these benefits, it is therefore highly recommended to report in line with the regulation as early as possible, even if not yet required.

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FAQs

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