Introduction

By signing the Paris Climate Agreement, the European Union has committed itself to pursuing the climate objectives agreed therein and to a more sustainable economic and social development.

Transparency plays a key role in the transition to a sustainable and low-carbon economy and as one of the first measures of the EU Action Plan, the Sustainable Finance Disclosure Regulation (SFDR) was adopted in November 2019. Increasing transparency and harmonising disclosure requirements in the financial services sector should help to steer financial and investment flows towards companies with lower greenhouse gas emissions and greater resilience to climate change.

The SFDR, which comes into force in March 2021, focuses primarily on asset managers (UCITS Management Companies and Alternative Investment Fund Managers), insurance companies and banks with portfolio management. This results in disclosure requirements at both company and product level. Disclosures must be made on the website, in pre-contractual documents and in regular reporting.

SFDR is supplemented by the Taxonomy Regulation, which contains further criteria for determining whether an economic activity or investment can be classified as environmentally sustainable.

The postponement of the supplementary Regulatory Technical Standards (RTS), which according to SFDR were to be published by ESAs in December 2020, but will now only be published in the course of 2021, has led to ongoing discussions. Depending on the content of the RTS and the respective product classification, this delay may mean that the disclosures have to be adjusted at a later date.

Transparency at Product Level

Under the SFDR, financial products will in future be divided into three categories: (1) Financial products with environmental or social characteristics (Article 8 – Light Green), (2) Sustainable financial products with an intended sustainability impact (Article 9 – Dark Green) and (3) Other Products which are not classified as Light Green or Dark Green.

The difference between Light Green Products and Dark Green Products results from the design and marketing of the product. Dark Green Products have an intended sustainability target (e.g. reduction of CO2 emissions), whereas Light Green Products only take into account environmental or social characteristics in their investment decision. Both financial products are subject to additional disclosure requirements in pre-contractual documents, in regular reporting and on the website, although the requirements differ between the two types of product. It should be particularly emphasised that the consideration of the characteristics or the achievement of the sustainability impact objectives should be quantified using indicators and compared with an index or benchmark wherever possible. If the product pursues an environmentally sustainable aspect, a taxonomy reporting is to be carried out additionally from 2023.

SFDR is supplemented by the Taxonomy Regulation, which contains further criteria for determining whether a product is classified as Light Green or Dark Green. Essentially, the following aspects are to be considered at product level:

• Make a substantive contribution to one of six environmental objectives:
• Do no significant harm (DNSH) to the other five
• Meet minimum safeguards (e.g., OECD Guidelines on Multinational Enterprises and the UN Guiding Principles on Business and Human Rights).
• Comply with Quantitative and Qualitative Technical Screening Criteria

However, Article 6 of SFDR also imposes disclosure requirements in the pre-contractual documents for Other Products. For these Other Products, for example, either information must be disclosed to the extent to which sustainability risks are taken into consideration in investment decisions and how these affect returns or, if sustainability risks are not relevant to investment decisions, a justification must be given (comply or explain approach).

From 30 December 2022, at the latest, Article 7 of the SFDR requires the consideration of the adverse impact on sustainability must be disclosed for all products.

Transparency at Company Level

A special role within the ongoing ESA consultations is played by the disclosure of the Principal Adverse Impacts on Sustainability (PAIs). Financial companies with more than 500 employees must take these PAIs into account when making their investment decisions and to disclose them from June 2021 onwards. If the number of employees is less than 500, it is possible to provide an explanation as to why the PAIs are not taken into account in the investment decision.

Summary

As a result of the product categorisation into Light Green, Dark Green and Other Products, financial market participants will have to comply with different disclosure requirements in pre-contractual documents and on the website from 10 March 2021 and in regular reporting from January 2022 onwards.

In addition to the requirements of the SFDR described above, there are other aspects that need to be considered. Financial market participants must ensure that the remuneration policy is consistent with the inclusion of sustainability risks and that the marketing material used is consistent with the pre-contractual documents and the information in the annual report.

Due to the high number of updates of pre-contractual documents, it is expected that the supervisory authorities in Ireland and Luxembourg will establish fast track approval procedures. Initial announcements have already been made in this regard, but further detailed information is still pending.

Next Steps

To find out more, including how we can help you meet your obligations, please contact your Carne Relationship Manager or a member of the Carne team below.

CARNE CONTACT DETAILS

Luxembourg

Cord Rodewald
Director | Compliance
+ 352 26 73 23 51
cord.rodewald@carnegroup.com

Ireland

Des Fullam
Group Chief Product & Regulatory Officer
+353 1 489 6805
des.fullam@carnegroup.com

Ireland

John Skelly
Principal
+353 1 489 6806
john.skelly@carnegroup.com