The UK Green Taxonomy

January 2023

As we start the new year, there is considerable uncertainty around the future of the UK Green Taxonomy. Previously published deadlines have passed with neither consultation nor legislation, and financial services firms, particularly those familiar with the already operational EU Taxonomy, have been questioning what is going on. Information has been scarce, but the UK Government has now formally confirmed that the Taxonomy has been delayed and that the expected approach may ultimately be subject to change. So, what has happened so far and what can we expect going forward?

The UK onshored the EU Taxonomy Regulation at the point of Brexit. The Government then appointed an independent expert group, the Green Technical Advisory Group (GTAG) to provide non-binding advice on the design and implementation of a UK Green Taxonomy for financial and non-financial firms. The October 2021 Greening Finance Roadmap set out the ambition to “make the UK the best place in the world for green and sustainable investment”. It also devoted a chapter to the importance of defining what counts as green and setting clear definitions and criteria for economic activities to be considered sustainable or “taxonomy-aligned”. The Government intended the Taxonomy to be “implemented and built to deliver for the needs of UK business and investors” and “robust enough to support the UK's net-zero commitment”.

The aims of the Taxonomy were to:

• Create clarity and consistency for investors so that they could easily compare the environmental performance and impact of companies and investment funds to inform their financial decisions.
• Improve understanding of companies' environmental impacts through taxonomy-aligned disclosures — for example through the proposed Sustainability Disclosure Requirements (SDR).
• Provide a reference point for companies in terms of clear performance targets.

It was widely expected that the UK Taxonomy would, to a significant extent, mirror the structure of the EU Taxonomy, which the UK had helped to design when it was still a Member State. As in the EU, which by 2021 was already pushing ahead with its Taxonomy implementation, the UK envisaged an approach centred on six environmental objectives underpinned by a set of detailed standards known as Technical Screening Criteria (TSC). In addition, to be considered Taxonomy-aligned, an activity would need to meet three tests:

1. Make a substantial contribution to one of the six environmental objectives.
2. Do no significant harm to the other objectives.
3. Meet a set of minimum safeguards (essentially minimum standards for doing business).

So far, so good. However, with the benefit of hindsight, the timeline put forward in the Roadmap, to legislate for the first two environmental objectives by the end of 2022 and for the remaining four by the end of 2023, has proved optimistic, not helped by increasing pressure on the economy and multiple changes in Government.

A statement by Andrew Griffith, Economic Secretary to the Treasury, on 14 December 2022, clarified somewhat unsurprisingly, that the Government would not make secondary legislation under the onshored Taxonomy Regulation in 2022. More interestingly, the statement explained that the Financial Services and Markets Bill (FSMB) currently before Parliament would repeal retained EU law relating to financial services — including the Taxonomy Regulation — effectively removing the obligation to make and adopt the TSC by 1 January 2023. Once repealed, HM Treasury will consider how to use the powers in the FSMB to “restate and modify retained EU law and decide whether to change the UK's approach”. This paves the way for the Government to change the substance and form of the Taxonomy in line with its sustainability priorities and agenda.

The Government has said that it will “proceed carefully” from this point, in order to maximise the effectiveness of the UK's sustainable finance agenda.

The 14 December statement did not specify a clear timeline. However, the Government is expected to respond to the Independent Review of Net Zero, “Mission Zero” (the “Skidmore Report”), in March. Publication of its Green Finance Strategy is expected to follow, including an update on the UK Taxonomy.

The Skidmore report was published on 13 January 2023 and found that standard setting, including taxonomy, was a key component in the UK delivering on its net zero aims, saying: “It is important for the UK Government to provide clarity and implement a coherent green taxonomy at the earliest possibility, delivering on its previous commitment.“ In addition to the proposed Green Taxonomy, the report urged the Government to consider the appropriateness of a “simple and proportionate” Transition Taxonomy and to work with international partners to ensure that the UK approach is interoperable and harmonised with other approaches. The Government is expected to respond to the review in March, before it issues its Green Finance Strategy.

The GTAG has noted that it will continue to advise the Government on developing and implementing a Green Taxonomy, and anticipates that a final implementation decision will be made later in 2023.

While discussions continue, firms will have to continue to operate without clear guidance and standards on what can be defined as sustainable and the UK's sustainability regime may be perceived as less advanced and transparent than that of the EU. However, the UK will have an opportunity to reflect on the best way forward, in particular learnings from the development and implementation of the EU Taxonomy.

The GTAG's October 2022 advice set out clear areas where the UK could benefit from the EU's experience. Key areas include navigating the complexity of the Do No Significant Harm (DNSH) requirements and ensuring international interoperability between taxonomies and related policies.

The GTAG also published recommendations for addressing trade-offs between the future UK and existing EU taxonomies. For example, the UK Green Taxonomy should:

• Strive to always be at least as ambitious in TSC and coverage as the EU or other significant international taxonomies.
• Remain committed to being science-based and maintain a clear record of how TSC are derived.
• Not only consider deviations from the EU Taxonomy but any significant deviations from other taxonomies in major jurisdictions - the UK criteria should be internationally comparable i.e. threshold- or process-based and measurable.
• Strive to give certainty — where there is necessarily a degree of future uncertainty, the UK should commit to a strategy that gives a clear indication of the direction of travel.
• Minimise deviations which require materially different IT systems unless the reasons are well justified.

Widespread or large deviations from the EU Taxonomy which would make the UK Green Taxonomy substantially different should be avoided or be supported by substantial benefits. The larger the deviation being considered, the more thought should go into its design to maximise benefits and mitigate costs where possible. Additionally, the complete portfolio of divergences should be assessed in order to gauge its significance.

Industry bodies continue to champion further consultation on the approach to the UK Taxonomy and its future role in the Green Finance strategy. There are differing opinions —  some would still like to follow the EU model closely — others would like a more flexible approach, based on transition or voluntary market-led taxonomies. It remains to be seen which will win out —  but the clock is ticking.