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What does EU Taxonomy alignment really mean?

April 28, 2022
 min read

With the start of the first reporting period in January 2022, there has been a lot of attention surrounding the EU taxonomy. One of the main topics of discussion is how businesses will report on taxonomy eligibility and alignment and benefits of a high taxonomy score. But to understand this, it is key to first understand what taxonomy alignment really means.

The EU taxonomy is a classification system that sets out a list of environmentally sustainable economic activities. The taxonomy forms part of the EU’s plan to scale up sustainable investment and implement the European green deal. 

The EU Taxonomy is set out in an EU Regulation with several delegated acts and will apply to all EU Member States. It has not yet been integrated for EEA countries, but this process has been started. The taxonomy regulation and delegated acts set out technical criteria that must be complied with for an economic activity to be considered sustainable. Companies will be required to assess how their activities perform against the taxonomy criteria and disclose these results publicly.

Taxonomy alignment can be broken down into simple steps:

1.      A company must have an eligible activity.

An eligible economic activity is an economic activity that is described and has technical screening criteria set out in the taxonomy. All revenue, CAPEX and OPEX for this eligible economic activity is therefore taxonomy eligible. For example, electricity generation from wind power is an eligible activity, while electricity generation from coal is not eligible.

If you are a bank, EU Taxonomy has different requirements. Read this blog and learn more about Green Asset Ratios for banks and other useful information.

2.      The eligible activity should be assessed against technical screening criteria set out in the taxonomy’s delegated acts.

The taxonomy has technical screening criteria for over 170 activities set out in the Climate Delegated Act and draft Environmental Delegated Act. This is set to expand with the adoption of new acts and updates to the existing activities.

3.      The activity must make a substantial contribution to one or more of the climate and environmental objectives relevant to that activity.‍

This means that, based on the technical screening criteria, the economic activity either has a substantial positive environmental impact or substantially reduces negative impacts of the activity on the environment. For example, manufacturing of batteries can make a substantial contribution to climate change mitigation if the batteries manufactured result in substantial greenhouse gas emissions reductions.

4.      The activity should not do significant harm to the other remaining objectives.

The taxonomy criteria are based on the idea that an economic activity should not qualify as environmentally sustainable if it causes harm to any of the environmental and climate objectives. In the taxonomy, criteria are set out for each economic activity to ensure that as well as making a substantial contribution to one or more of the objectives, the activity does not cause harm to any of the other objectives.

5.      The activity should fulfill the minimum social safeguard standards based on OECD and UN guidelines.

To be sustainable, an economic activity should be carried out “in alignment with the OECD Guidelines for Multinational Enterprises and UN Guiding Principles on Business and Human Rights, including the International Labour Organisation’s (‘ILO’) declaration on Fundamental Rights and Principles at Work, the eight ILO core conventions and the International Bill of Human Rights”. This means that any business will be required to demonstrate compliance with minimum standards on human rights, social responsibility, labour rights, and anti-corruption procedures. 

Taxonomy alignment therefore refers to an eligible economic activity that is making a substantial contribution to at least one of the climate and environmental objectives, while also doing no significant harm to the remaining objectives and meeting minimum standards on human rights and labour standards. The revenue, CAPEX and OPEX for such an activity is aligned or in alignment. An economic activity that is eligible and does not meet the technical screening criteria and minimum social safeguards is not aligned.

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