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EU Social Taxonomy: What Does It Mean for Your Business?

Celsia
January 17, 2023
9
 min read

What is the EU Social Taxonomy?

The EU Social Taxonomy is a proposed EU regulation that would aim to set out a list of socially sustainable activities with a similar structure to the present EU legislative environment on sustainable finance and sustainable governance.

The EU’s Taxonomy for Sustainable Finance entered its first reporting period this year. It sets out obligations for companies to report on their economic activities and how they perform against technical screening criteria to assess how green they are. EU Taxonomy covers most industries. For example, with the framework you can calculate solar power sustainability, or how sustainable plastic manufacturing is in your company, or you can use EU Taxonomy in agriculture

Now, the EU is discussing extending the taxonomy to more extensively cover the ‘S’ as well as the ‘E’ in ESG (, by creating an European social taxonomy. The aim is to create greater transparency on social aspects of sustainability, direct capital flows to activities that operate with respect for human rights, and support capital flows to investments that improve living and working conditions.

The social taxonomy is still under development. The Platform on Sustainable Finance has now released a long awaited report detailing how a social taxonomy could work in practice, and the key concepts that need to be developed. 

This article sets out the EU Social Taxonomy overview and the rationale behind its extension before delving into the details of the latest report and discussing key takeaways. This includes looking at the proposed structure of the social taxonomy, its aims and interaction with existing legislation, and setting out an example of how a social activity could look in practice.

We hope you will enjoy reading this EU Social Taxonomy summary.

Background and demand for a social taxonomy

The scale of investment needed for climate-change mitigation and adaptation are well known. Alongside this, however, is a huge need to invest in social sustainability. The Employment and Social Development in Europe 2020 report highlights Europe’s most pressing need for social investment: poverty reduction. 24% of the EU working-age population have found themselves below the at-risk-of-poverty threshold during the last 4 years. The report also points to the need to invest in other areas such as developing workers’ skills, affordable housing, and education.

An increasing demand for social bonds to finance social housing, healthcare, and jobs indicates that investors are also seeing social investments as an opportunity and shows that capital can be guided to socially valuable activities.

However, investors run the risk of being associated with human rights abuses if social factors are neglected in their investment activities. Whereas the green taxonomy aims to combat ‘greenwashing’, the social taxonomy aims to combat ‘socialwashing’. Currently there is a lack of clarity about what constitutes a social investment. In order to direct capital to socially valuable activities, it is important to clearly define what constitutes a responsible social investment. 

A study on the divergence of ESG ratings demonstrated that the categories of human rights and product safety, both social issues, are categories for which measured deviations in rating results are particularly pronounced. In 2019, BNP Paribas undertook a global ESG survey and found that 46% of investors surveyed (347 institutional investors were surveyed in total) found the social aspect of ESG to be the most difficult to analyse and embed in their investment strategies. 

The EU is aiming to address this lack of clarity by taking the same approach as the EU Taxonomy on Sustainable Finance – by creating a social taxonomy. A social taxonomy would: direct capital flows to activities that operate with respect for human rights and support capital flows to investments that improve living and working conditions. The environmental taxonomy aims to provide guidance for investors on what activities are environmentally sustainable. The social taxonomy will aim to do the same for social activities.

Aims of the social taxonomy‍

The concept and framework for a social taxonomy have been under development alongside the environmental taxonomy. The Platform on Sustainable Finance has now released its final report on the social taxonomy. In this report, the Platform proposes a structure for a social taxonomy which will achieve the social goals in the EU. The social taxonomy will be formed on the basis of existing EU documents including the European pillar of social rights and action plan, the EU Charter on Fundamental Rights, and the European Convention on Human Rights, along with other internationally important documents such as the Universal Declaration of Human Rights and the OECD Guidelines for Multinational Enterprises.

The social taxonomy is being developed alongside other key legislation such as the proposed EU corporate sustainability reporting directive (CSRD), the Sustainable Finance Disclosures Regulation, and the sustainable corporate-governance (SCG) initiative. 

A social taxonomy should “make clear the opportunities for investors to contribute to this European agenda for upward convergence of working conditions and living conditions of all Europeans”. It should also position the EU as a “standard setter and frontrunner in implementing global agendas such as the SDGs”.

While the social taxonomy is still under development, this report gives useful insight into upcoming reporting requirements. Among the core requirements in the social taxonomy is that companies must perform due diligence analyses of both their own activities and their suppliers. With increasing interest from investors and consumers, getting ahead of upcoming social, governance, and due diligence reporting requirements is set to provide a number of benefits for business. 

Structure and content of the social taxonomy‍

The social taxonomy will most likely follow the same approach and structure as the environmental taxonomy. However, there will be some differences. 

The Platform considered two main differences between a social taxonomy and an environmental taxonomy:

  1. While most economic activities have detrimental impacts on the environment, most economic activities such as the creation of decent jobs, paying taxes and production of socially beneficial goods and services can be considered inherently socially beneficial. In creating a social taxonomy, a distinction has to be made between inherent benefits and additional social benefits that directly contribute to the realisation of human rights such as improving access to quality healthcare or ensuring decent jobs.
  2. While environmental objectives and criteria can be based on science, a social Taxonomy has to be based on international authoritative standards of topical relevance such as the International Bill of Human Rights. 

Keeping these differences in mind, the Platform has suggested that the social taxonomy should adopt the following structural aspects from the environmental taxonomy:

  1. The development of the EU Taxonomy social objectives
  2. Types of substantial contributions
  3. Do no significant harm criteria
  4. Minimum (environmental) safeguards

The social taxonomy will, however, require some changes to these structures as, by its nature, it would be difficult to keep strictly to the scientific approach used in the environmental taxonomy. 

The social taxonomy should contain sub-objectives spelling out different aspects of three proposed social objectives. The objectives should be based on the type of stakeholders that economic activities can affect. The Platform proposes that the objectives are based on an entity’s: (i) own workforce (including value-chain workers); (ii) end-users/consumers; and (iii) affected communities (directly or through the value chain). 

The proposed structure of the social taxonomy, therefore, consists of three objectives, each of which addresses a different group of stakeholders:

  1. decent work (including for value-chain workers);
  2. adequate living standards and wellbeing for end-users;
  3. inclusive and sustainable communities and societies.

These objectives will also contain sub-objectives to ensure that specific aspects of these objectives are addressed. These aspects include: health and safety; healthcare; housing; wages; non-discrimination; consumer health; and communities’ livelihoods.

The Platform has also suggested that the social taxonomy should recognise different types of substantial contributions. This would include substantial contributions which focus on the additional inherent social benefits of the activity itself; substantial contributions which focus on avoiding and addressing negative impacts on workers, consumers and communities; and substantial contributions in enabling activities which enable other activities to provide social benefits.

The social taxonomy will also follow the ‘do no significant harm’ principle to ensure that when an activity is contributing to one of the social objectives it is not doing harm to the others. These criteria will be linked to the activity for the most part. Where they cannot be linked to the activity but must be linked to the economic entity (i.e. the business/company itself rather than a particular socially sustainable economic activity) (such as ‘transparent and non-aggressive tax policy’), minimum safeguards will be employed to avoid inconsistencies.

Interaction with the environmental taxonomy

One area that is still under discussion is exactly how the social taxonomy and environmental taxonomy should interact. The main concern when finding a way for the taxonomies to interact, is to avoid a ‘race to the bottom’ of standards. For example, if it is only required to satisfy the requirements of one of the taxonomies in order to be classified as sustainable, this could mean that a company meeting social taxonomy standards could be seen as sustainable even though it doesn’t meet any environmental criteria.

One suggestion to avoid this is that in the same way that social and governance-related minimum safeguards (UNGPs and OECD guideline) are part of the environmental taxonomy, minimum environmental safeguards should be part of the future social taxonomy. These could, for example, include the lines of the environmental part of the OECD guidelines for multinational enterprises (MNEs). 

The other suggestion from the Platform’s report is to integrate the social and environmental taxonomy more closely. This could include environmental and social do no significant harm criteria being valid for both the social and environmental parts. Exactly how the criteria will interact remains to be decided, but it is clear this is an important aspect of introducing a social taxonomy alongside the environmental taxonomy.

Examples of how objectives could be applied

One example of how these activities could be structured is given in the Platform’s report for the objective ‘adequate living standards and wellbeing for end-users’, with the sub-objective access to housing.

While the standards and criteria are still very much underdevelopment, the example shows how activities could be structured for the social taxonomy following a substantial contribution and do no significant harm framework.

Next steps 

The five next steps in the EU Social Taxonomy timeline of its development are set out by the Platform as follows:

  • clarify the minimum safeguards
  • conduct a study on the impacts of a social taxonomy considering different options for application and designs;
  • work out a rationale for prioritising objectives and sub-objectives;
  • prioritise objectives according to the rationale;
  • define substantial-contribution and DNSH criteria for the first objective(s) and sectors.

Although the social taxonomy is still under development, many of the concepts explored are also relevant to the upcoming CSRD, Due Diligence Directive, and the minimum social safeguards under the environmental taxonomy. These standards will be closely linked and are set to have many aligned principles. While most of these standards are set to come into force in the next few years, the minimum social safeguards from the EU taxonomy are already in place, with companies reporting on the environmental taxonomy from this year. 

If you are looking for more information on current reporting requirements and the minimum social safeguards, and how they could apply for your company, don’t hesitate to reach out to us. Our experts are fully up to date with the latest requirements and best practices when it comes to ESG reporting and assessment, and are always happy to discuss them!

The full report on the social taxonomy can be found here.

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