Taxonomy and its Impact on the Real Estate Industry

The Taxonomy Regulation (EU) 2020/852 (Taxonomy Regulation) already entered into force in Summer 2020, but it was just now (21 April 2021) that the EU Commission approved the first delegated act based on the Taxonomy Regulation, which will enter into force on 1 January 2022. This delegated act contains technical screening criteria for two of the six environmental objectives of the Taxonomy Regulation, namely "climate change mitigation" and "climate change adaption".

While the Taxonomy Regulation is primarily aiming at the construction industry, also investors and financial companies are (intentionally) indirectly affected and must therefore ensure that real estate investments are taxonomy-compliant when they offer sustainable products.

In the real estate sector, the following activities are mainly affected: the construction of new buildings and the renovation of existing buildings (inter alia). According to the current draft of the delegated act (the final versions have not yet been published), newly constructed buildings must, for example, exceed the threshold set for the requirements for a nearly zero-energy buildings by 10%. The delegated act also contains other technical requirements, which we will discuss in more detail in a further contribution on this topic.

This means that investors, developers and also financial companies must already now deal with the requirements for sustainable real estate projects and, when purchasing or financing real estate investments, must now also review compliance with the requirements of the Taxonomy Regulation as part of their due diligence when marketing ecologically sustainable investments.

We will report again with details as soon as the final version of the delegated act on the environmental objectives "climate change mitigation" and "climate change adaptation" has been published. In the following, we present a general overview of the structure of the Taxonomy Regulation.

CERHA HEMPEL's Real Estate Team is at your disposal for all questions related to sustainable investments, especially in the acquisition process and in the structuring of real estate transactions.

Taxonomy: General overview

Whom does the Taxonomy Regulation cover?

The overall objective of the Taxonomy Regulation is to create a uniform system of classification for environmentally sustainable economic activities in order to create a "sustainable finance system". "Green" economic activities are defined in a standardised and transparent way.

The Taxonomy Regulation covers the economic activities of several sectors that are collectively responsible for around 93.5% of greenhouse gas emissions within the EU. In addition to the manufacturing industry, transport and storage, agriculture and the energy sector, these also include the construction industry. The Taxonomy Regulation thus also has a direct impact on real estate transactions and will significantly determine the future in this sector.

The provisions of the Taxonomy Regulation applies to financial market participants that make available financial products within the EU, to large corporations which are subject to publish non-financial statements pursuant to Section 243b of the Austrian Commercial Code (UGB), as well as to the European Union and all Member States.

Uniform classification system for sustainable investments

If an economic activity is pursued in one of the economic sectors mentioned, it is only considered sustainable according to Art 3 of the Taxonomy Regulation if it

1. substantially contributes to at least one of the six environmental objectives
2. do not significant harm to any of the other five environmental objectives
3. comply with minimum safeguards and
4. conforms to the technical screening criteria.

The first three requirements form the framework and are defined in the Taxonomy Regulation itself. The EU Commission within the framework of delegated acts (implementing regulations) adopts the detailed technical screening criteria (point 4.) For an investment to qualify as an environmentally sustainable economic activity, all four conditions must be met collectively.

1. Substantial contribution to at least one of the six environmental objectives (Art 9 - 15 Taxonomy Regulation)

In this respect, it is essential that the economic activity make a substantial contribution to at least one of the six environmental objectives of Art 9 of the Taxonomy Regulation. These environmental objectives 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
• The protection and restoration of biodiversity and ecosystems

Art 10 - 15 of the Taxonomy Regulation specify whether an economic activity makes a "substantial contribution" to one of the six environmental objectives.

2. Principle of “Do No Significant Harm, DNSH” (Art 17 Taxonomy Regulation)

Furthermore, an economic activity shall not contradict the principle of "Do No Significant Harm" of one of the environmental objectives.

Criteria for determining an economic activity's significant harm to an environmental objective are contained in Art 17 of the Taxonomy Regulation and in the delegated acts for the individual sectors.

3. Compliance with minimum safeguards (Art 18 Taxonomy Regulation)

In addition, compliance with the minimum safeguards contained in Art 18 of the Taxonomy Regulation must be complied with. In particular, human and labour rights must be observed. In this regard, the Taxonomy Regulation refers to the OECD Guidelines for Multinational Enterprises and the United Nations Guiding Principles on Business and Human Rights.

4. Fulfilment of the technical screening criteria (delegated regulation)

Last but not least, the technical screening criteria must also be fulfilled, which are defined by the EU Commission in the form of delegated acts (implementing regulations for the Taxonomy Regulation) for each of the defined environmental objectives. These delegated acts supplement or specify the other three requirements. The technical assessment criteria thus fulfil two tasks:

On the one hand, they define in detail the conditions under which it can be assumed that a certain economic activity makes a substantial contribution to a certain environmental objective. On the other hand, they standardise criteria according to which a significant harm to a specific environmental objective is to be assumed.

Transparency requirements for financial market participants and large corporations

In addition, the stakeholders covered by the Taxonomy Regulation - i.e. financial market participants as well as large corporations subject to Section 243b of the Austrian Commercial Code (UGB) - have to comply with certain transparency requirements. According to Art 5 Taxonomy Regulation, the following information must be disclosed for financial products that aspire sustainable investments:

• the information on the environmental objective or environmental objectives to which the investment underlying the financial product contributes; and
• a description of how and to what extend the investment underlying the financial product are in economic activities that qualify as environmentally sustainable.

For financial products that are not qualified as sustainable, Art 7 Taxonomy Regulation requires the inclusion of a clause stating that the underlying investment does not meet the EU criteria for environmentally sustainable economic activities.

Creation of a platform on sustainable financing

As a third mainstay, Art 20 of the Taxonomy Regulation provides for the establishment of a platform for sustainable financing, which is to be composed of representatives of the European Environment Agency, the European supervisory authorities, the European Investment Bank and funds and other experts. This platform has an advisory, analytical and supportive function and can, if necessary, intervene and submit proposals for amendments to the EU Commission.