November 19, 2024
Five-Minute Brief: Introducing Canada’s New Sustainable Finance Taxonomy
In October, the Government of Canada announced the development of a Canadian sustainable finance taxonomy. Otherwise known as sustainable investment guidelines, the taxonomy will provide Canadian capital markets with clarity about business activities that are aligned with 1.5°C decarbonization pathways and the transition to a net-zero economy. In doing so, the taxonomy will play a critical role in mobilizing the significant capital needed to support Canada’s efforts to mitigate climate change and keep global warming within 1.5°C above pre-industrial levels.
About the Taxonomy
Canada’s announcement builds on the sustainable finance Taxonomy Roadmap Report, released in September of 2022. It was developed by the Sustainable Finance Action Council which represents 25 of the largest financial institutions in partnership with the Canadian Climate Institute.
The new taxonomy will define economic activities as “green” or “transition” across key sectors:
- “Green” activities are those that emit low to zero greenhouse (GHG) emissions and are in markets expected to grow in a net-zero future, such as renewable energy infrastructure, electric vehicle charging stations and heat pumps for buildings.
- “Transition” activities are those that enable reductions in emissions-intensive sectors but are expected to decline in net-zero pathways, such as carbon capture for fossil fuels or implementing energy efficiency measures for a building heated by gas. These activities will likely have limited lifespans or “sunset dates” for eligibility as their sectors phase out in the net-zero transition.
Over the next year, the Canadian taxonomy will be developed by an external, arms-length organization(s) for three of the five key priority sectors:
- Electricity
- Transportation
- Buildings
- Agriculture and forestry
- Heavy industry
The Government of Canada has also indicated company-level requirements under the taxonomy, including net-zero targets, credible transition plans and disclosing climate-related practices on governance, strategy and risk management. It is expected that performance thresholds and Do-No-Significant-Harm requirements will also be developed for each activity in the taxonomy.
Developing the taxonomy will require significant climate science and sector-specific expertise, as well as engagement with financial market participants, industry, civil society, Indigenous partners, governments and regulators.
Taxonomy Insights – Australia’s Real Estate Sector Guidance
Canada joins over 50 jurisdictions around the world who have implemented or are advancing sustainable finance taxonomies, including the European Union, China and Mexico. As Canada embarks, it is interesting to look to the Australians, who are further ahead in developing their own sustainable finance taxonomy and have spent the past year consulting stakeholders on green and transition-eligible criteria in five sectors: 1) electricity generation and supply, 2) minerals, mining and metals, 3) construction and the built environment, 4) transport, and 5) agriculture and land.1
As an example, Australia’s taxonomy for the construction and the built environment defines “green” and “transition-eligible” for three direct activities: new construction, acquisition and ownership, and renovations and upgrades. It also provides criteria for indirect activities including the supply of building equipment and supporting infrastructure. The taxonomy stipulates specific performance criteria for “green” and “transition-eligible” activities based on sectoral carbon budgets in a 1.5°C decarbonization pathway. Based on this, transition criteria will phase out in 2031, after which activities must meet the green screening criteria to be taxonomy eligible.
For new construction activities to meet the green criteria, the Australian taxonomy requires buildings to be constructed to:
- Meet relevant national construction code energy efficiency requirements
- Avoid future on-site fossil fuel emissions from operations
- Limit global warming potential of installed refrigerants (beginning in 2027)
- Limit embodied carbon emissions from materials and the construction process (beginning in 2027)
There are no transition criteria for new construction as the taxonomy recognizes that not meeting the green requirements would lock in GHG emissions above the sectoral emission budget thresholds. Put simply, new buildings that do not meet the criteria above will not be eligible for sustainable finance capital flows.
For acquisition and ownership, as well as renovations and upgrades to meet the green criteria, the taxonomy requires buildings to:
- Achieve a target energy intensity (based on building type, location and year)
- Avoid on-site fossil fuel emissions from operations
- Limit the global warming potential of installed refrigerants, beginning in 2027 (for renovations and upgrades only)
The transition criteria for acquisition and ownership require buildings to meet a GHG emissions intensity performance target based on operational control, building type, location and year.
The transition criteria for renovations and upgrades require buildings to reduce operational emissions by at least 30%, not extend the useful life of fossil fuel equipment and limit the global warming potential of installed refrigerants.
Specific green and transition criteria are also provided for renovations that replace major equipment and building upgrades for technology such as heat pumps, electric vehicle charging equipment and the installation of rooftop solar and batteries.
Taken together, the Australian taxonomy provides clear signals for real estate asset owners and managers about sustainable finance requirements. While Canada’s taxonomy may look different than Australia’s based on its unique climate and decarbonization pathway, we anticipate common principles will apply, such as low embodied emissions, sustainable construction practices, energy efficient design, equipment fuel switching to renewable energy sources, etc.
How to Get Started
Investors committed to net-zero have experience evaluating their investments to ensure they can decarbonize adequately to achieve their emissions reduction targets (read our Five-Minute Brief on Evaluating Climate Transition Alignment here). As the Canadian taxonomy is developed, asset owners can use it to engage with external managers and validate that their fund management practices are consistent with the taxonomy’s criteria, as well as inquire how the taxonomy might inform the investment process going forward. Asset managers can compare the extent to which their bespoke climate finance frameworks align with the taxonomy’s criteria as the details are unveiled, as well as begin assessing their current portfolio and potential eligibility of their investments.
Businesses, for their part, should pay attention to relevant sector-specific requirements to ensure they are well-positioned for financing and to reduce climate transition risk from ineligible activities. They should also ensure net-zero targets, credible transition plans and internal climate-related governance and risk management processes are in place.
How Quinn+Partners Can Help
Our experienced team has been advising clients on sustainable finance and decarbonization pathways to net-zero for over a decade. We have supported clients to evaluate portfolio climate transition alignment, set decarbonization targets, develop transition plans and conduct climate-related disclosure gap assessments. If you are ready to accelerate your climate action, please get in touch.