Shipping | EU Taxonomy – Classification system for sustainable economic activities
EU Taxonomy – Overview
The EU Taxonomy is a classification system for sustainable economic activities with a current focus on climate change mitigation and climate change adaption. The classification system will be used to determine when an economic activity is “environmentally sustainable” and, as a result, when an investment is environmentally sustainable.
The classification system will make it easier to consider and compare the climate and environmental impact of companies – and assist companies and investors in determining which economic activities can be considered environmentally sustainable.
It has in particular been highlighted by EU that the classification system is expected to create security for investors, protect private investors from greenwashing, help companies to plan transition, mitigate market fragmentation and eventually help shift investments where they are most needed.
EU Taxonomy Regulation
Subject and Scope
The Taxonomy Regulation entered into force on 12 July 2020.
The Taxonomy Regulation and classification system can be used by any relevant market participant. The Taxonomy Regulation includes however mandatory disclosure obligations for (i) financial market participants and (ii) undertakings subject to the non-financial reporting directive.
Financial market participants that offer financial products which have environmental sustainability as its investment objective, or that promote environmental characteristics, must disclose the proportion of underlying investments that are in environmentally sustainable economic activities as defined under the Taxonomy Regulation (Articles 5 and 6). The disclosures must be made in pre-contractual disclosures and in periodic reports.
Undertakings subject to the non-financial reporting directive must, as part of the non-financial statement, include disclosure of the proportion of turnover, capex and opex that are related to environmentally sustainable economic activities (Article 8).
The Taxonomy Regulation is of relevance for the EEA, but has not yet been included as part of the EEA Agreement. A proposal for legislation incorporating the Taxonomy Regulation has however been developed in Norway, and circulated for comments.
Environmentally Sustainable Economic Activities
Article 3 of the Taxonomy Regulation sets out four overarching criteria for environmentally sustainable economic activities. For the purposes of establishing the degree to which an investment is environmentally sustainable, an economic activity shall qualify as environmentally sustainable where that economic activity:
- Contributes substantially to one or more of the environmental objectives (set out in Article 9 in accordance with Articles 10 to 16);
- Does not significantly harm any of the environmental objectives (set out in Article 9 in accordance with Article 17);
- Is carried out in compliance with the minimum safeguards (laid down in Article 18); and
- Complies with technical screening criteria that have been established by the Commission (in accordance with Article 10(3), 11(3), 12(2), 13(2), 14(2) or 15(2)).
The six environmental objectives established by the Taxonomy Regulation Article 9 are:
- Climate change mitigation;
- Climate change adaptation;
- The sustainable use and protection of water and marine resources;
- The transition to a circular economy;
- Pollution prevention and control; and
- The protection and restoration of biodiversity and ecosystems.
Whether an activity (i) contributes substantially to one or more objectives and (ii) does not significantly harm any of the other environmental objectives, will be regulated by the technical screening criteria.
Technical Screening Criteria – Overview
The European Commission shall establish technical screening criteria for each of the environmental objectives. On 20 November 2020 the European Commission launched a public consultation on the first two sets of criteria determining which economic activities can qualify as environmentally sustainable under the EU Taxonomy. The activities and criteria are based on the recommendations of the Technical Expert Group on Sustainable Finance (TEG) published in March 2020. The final criteria are not yet adopted by the EU, and the final delegated act may deviate from the latest draft.
The consultation draft of 20 November 2020 concerns those activities that substantially contribute to (i) climate change mitigation (draft Article 1 and Annex 1) or (ii) climate change adaptation (draft Article 2 and Annex 2).
Reporting obligations for the first two criteria (climate change mitigation and adaption) will be effective from 1 January 2022, covering the financial year 2021, while reporting obligations for the other four criteria will be effective from 1 January 2023, covering the financial year 2022.
The draft technical screening criteria covers the following 13 sectors:
- Agriculture and forestry
- Environmental protection and restoration activities
- Water supply, sewerage, waste management and remediation activities
- Transport (including maritime transport)
- Construction and real estate
- Information and communication
- Professional, scientific and technical activities
- Financial and insurance activities
- Human health and social work activities
- Arts, entertainment and recreation
Technical Screening Criteria – Maritime Transport
Maritime transport is covered by the consultation draft with technical screening criteria and has been divided into the following categories:
- Inland passenger water transport;
- Inland freight water transport;
- Retrofitting of inland water passenger and freight transport;
- Sea and coastal freight water transport;
- Sea and coastal passenger water transport; and
- Retrofitting of sea and coastal freight and passenger water transport.
Draft screening criteria are set out in Annex 1 (climate change mitigation) and Annex 2 (climate change adaption) for each of the above categories of maritime transport.
The screening criteria are comprehensive and contain several details in terms of maritime transport.
It is worth noting in particular:
Transport of Fossil Fuels:
There is a requirement in both Annex 1 (climate change mitigation) and Annex 2 (climate change adaption) that vessels used for inland as well as sea and coastal freight water transport are not dedicated to the transport of fossil fuels.
A basis requirement in the draft criteria, applicable to all maritime transport activities, is that the vessels have zero direct (tailpipe) CO2 emission.
The following exemptions will however apply to this requirement for a limited time period:
- Vessels used for passenger water transport will qualify (i) until 31 December 2025 for hybrid vessels that use at least 50% of zero direct (tailpipe) CO2 emission fuel mass or plug-in power for their normal operation (inland, sea and coastal) and (ii) until 31 December 2025 for vessels that have an attained Energy Efficiency Design Index (EEDI) value of 10 % below the EEDI requirements applicable on 1 January 2022 (sea and coastal).
- Vessels used for inland freight water transport will qualify until 31 December 2025 where the vessels have direct (tailpipe) emissions of CO2 per tonne kilometre, calculated (or estimated in case of new vessels) using the Energy Efficiency Operational Indicator, of 50 % lower than the average reference value for emissions of CO2 defined for heavy duty vehicles in the regulation.
- Vessels used for sea and coastal freight water transport will qualify (i) until 31 December 2025 for hybrid vessels that use at least 50 % of zero direct (tailpipe) CO2 emission fuel mass or plug-in power for their normal operation, (ii) until 31 December 2025, where it can be proved that the vessels are used exclusively for provision of coastal services designed to enable modal shift of freight currently transported by land to sea, where the vessels have direct (tailpipe) CO2 emissions, calculated using the IMO Energy Efficiency Design Index (EEDI), of 50 % lower than the average reference CO2 emissions value defined for heavy duty vehicles in the regulation and (iii) until 31 December 2025 where the vessels have an attained Energy Efficiency Design Index (EEDI) value of 10 % below the EEDI requirements applicable on 1 January 2022.
There are also specific requirements as to inter alia sulphur oxides emissions, nitrogen oxides (NOx) emissions, exhaust gas cleaning systems, ballast water, noise and vibrations.
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Access to “green” capital is important for all participants in the maritime industry in order to realize a green transition and continue the technological developments towards a climate neutral fleet. The comprehensive requirements to maritime transport set out in the technical screening criteria may result in more limited access to green capital, and can make the green transition more difficult for the sector. It is important that the relevant players in the maritime industry have sufficient incentives and opportunities to continue the technological developments and green transition.
This has also been highlighted by the Norwegian Government in its feedback to the consultation draft. The Norwegian Government has highlighted i.a. that a too narrow definition of what is considered a dedicated vessel for the transportation of fossil fuels could potentially provide disincentives to a green transition in the sector and further that there is a need to clarify i.a. how to interpret the criterion of vessels not being “dedicated to the transport of fossil fuels” and the criterion for hybrid vessels.
BAHR’s View and Key Takeaways
There is an increasing focus on the environmental footprint of companies, projects and investments. We expect the EU Taxonomy Regulation and technical screening criteria to be relevant for several market participants as a common ground for determining environmentally sustainable economic activities and investments.
One of the objectives of the Sustainable Finance Action Plan initiated by the EU is to facilitate a major re-allocation in capital towards sustainable investments. The EU Taxonomy Regulation is the building block, determining which investments are sustainable and which are not sustainable. Alignment with the technical screening criteria may represent a potential opportunity for companies with activities recognized as “green” in terms of access to capital and cost of capital.
Companies should in particular:
- Evaluate whether the Taxonomy Regulation will be mandatory to the company – alternatively whether the Taxonomy Regulation is otherwise of relevance to it
- Consider the effects the Taxonomy Regulation is expected to have on its business – including access to equity and financing
- Identify any disclosure and data requirements and establish reporting procedures where relevant
- Assess any organizational and financial impact on company and group level
- Be aware the content of the Taxonomy Regulation and relevant effective dates
The final requirements as to maritime transport and vessels under the technical screening criteria remains to be seen. We hope that the contribution by the maritime sector and vessels to a green transition will be further recognized and clarified in the final version of the criteria.
Further details can be found here.
Do not hesitate to contact any of BAHR’s shipping or regulatory team members for further information.