EU taxonomy and real estate: it’s a match!

Inflation, the energy crisis, supply and labour shortages and, as mentioned in a previous blog, a skyrocketed number of workers that joined the country (+84% over the last two decades): what a time to be alive if you work in real estate in Luxembourg (or are looking for a place to stay).

The list of challenges for players of the real estate industry is indisputably long. And unfortunately, there is even more: according to the European Real Estate Association (EPR), buildings are responsible for around 40% of energy consumption as well as 36% of carbon emissions in the European Union (EU). Consequently, the construction and real estate sector is a key industry to fight climate change.

In this regard, the industry has been dealing since the 1980s with a series of voluntary and involuntary certifications, standards and regulations aiming to control and reduce the environmental impact of their activities.

Since its coming into force in 2021, these measures are being complemented by another regulatory layer: the EU taxonomy. It applies to both residential and commercial real estate and defines what’s green and sustainable when it comes to buildings.

In this blog, we will show you why the EU taxonomy is far from being an additional burden for the real estate industry, but rather a necessary and indispensable tool to reduce the above mentioned energy consumption.

What is the EU taxonomy?

As explained by the European Commission, the EU taxonomy, also referred to as the green taxonomy, is a classification system that establishes a list of environmentally sustainable economic activities. It’s believed to play an important role in helping the EU scale up sustainable investment, which is vital to meet the EU’s climate and energy targets for 2030 through 55% emissions reduction and reach the objectives of the European Green Deal.

It aims to provide companies, investors and policymakers with appropriate definitions for which economic activities can be considered environmentally sustainable. In this way, it creates security for investors, protects private investors from greenwashing, helps companies to become more climate-friendly, mitigates market fragmentation and helps shift investments where they are most needed.

In fact, the EU taxonomy has already brought significant benefits to some industries, for example, in banking: banks generally consider the taxonomy as a positive initiative to foster and advance sustainable finance because of the consistency and greater transparency it brings into the industry. Also, the majority of the institutions believe that common definitions will improve their approach to managing all aspects of environmental, social and governance (ESG), including the way to interact with customers.

Currently, only companies covered by the Extra-Financial Reporting Directive are required to provide data on the environmental performance of their assets and activities. As soon as the Corporate Sustainability Reporting Directive (CSRD) is installed by the member states, the obligation will be gradually extended. This will increase the number of companies that will have to deal with the taxonomy.

The EU taxonomy has identified 70 eligible business activities that are likely to contribute to reaching the so-called six environmental objectives of the taxonomy, which are:

  • Climate change mitigation;
  • Climate change adaptation;
  • Sustainable use and protection of water and marine resources;
  • Transition to a circular economy;
  • Pollution prevention and control;
  • Protection and restoration of biodiversity and ecosystems.
How does the EU taxonomy apply to real estate?

As stated before, the real estate sector is one of the biggest energy consumer and carbon polluters in the EU, and therefore holds a significant improvement obligation. Eligible activities include the construction of new buildings, the renovation of existing ones, the installation and maintenance of certain technical equipment and the acquisition and management of real estate.

To meet the requirements of the taxonomy, the activity must substantially contribute to one of the six environmental objectives mentioned above, as well as not negatively affect any of the other five environmental objectives. Thus, every real estate-related activity requires different review criteria depending on the objective to which it intends to contribute.

Let’s take the climate change mitigation objective as an example. According to the EU taxonomy, a new construction must have an energy consumption that is 10% lower than the reference value for near zero energy buildings. If it has a surface area of more than 5,000m2, it must also be subjected to air tightness tests and its global warming potential (GWP) has to be determined.

This assessment has to be accessible in the form of a report on the company’s website during the eight months following the end of the financial year. A potential investor or buyer will find three key indicators in this report: the proportion of the company’s turnover, the capital expenditure (CAPEX) and operating expenditure (OPEX), which are actually directed towards sustainable activities.

In this way, clear guidance on what activity is sustainable is given, information is gathered and greater transparency for all stakeholders is created.

Existing certification and taxonomy —what’s the difference? 

Today, hardly any new commercial building is built without certification, and for good reason. The buyers are generally investment funds that are already subject to extra-financial reporting and that anticipated the entry into force of the taxonomy.

According to PwC statistics, about 20% of Luxembourg’s assets are already certified, meaning that some actors didn’t wait for the taxonomy to comply with certain environmental requirements and decided to act on a voluntary basis.

Indeed, the existing certification practice has acted as an additional driver that has helped prepare market players for the arrival of the European classification system, especially as a certified building is estimated to be more than 60% (or sometimes even 80%) aligned with the European taxonomy already.

In fact, what truly distinguishes the EU taxonomy from other certifications is its global aspect and universality. Its advantage is that it introduces a common reference framework that will lead real estate players to adopt more good practices.

The existing certifications, such as the ones the European organisations have set up  —for instance, HQE for France, BREEAM for the UK and DGNB for Germany—, are complementary to the taxonomy as they include elements that aren’t necessarily part of the EU taxonomy but which are nonetheless good practice. This could include sustainability criteria related to transport or project management, for example.

What’s in it for investors and stakeholders looking to be aligned with the European taxonomy?

For those with a large number of assets, it’s recommended to closely screen their entire real estate portfolio to identify those assets that do or don’t meet the requirements of the taxonomy and then to align with it. This can be done by a certification process.

In fact, the acquisition of a property in itself is an activity that can be aligned with the taxonomy. If a building doesn’t meet the requirements, there’s a considerable risk that its value will be impaired. In addition, banks that finance real estate projects are themselves subject to the taxonomy regulation and will therefore require an alignment of funds or, at the very least, a certification of the assets they finance. This will create a virtuous circle from which no one can escape.

To conclude

It’s common knowledge that businesses generally don’t like new rules or additional reporting obligations. However, when it comes to the EU taxonomy, things could be different. The general interest to redirect sustainable investments will notably find appreciative takers and buyers in a sector that bears incredible potential for improvement —and therefore also investment opportunities— and which is already familiar with reporting and certifying the sustainability level of its activities. The EU taxonomy supports this development and harmonises the process, instead of undermining it.

What we think
Yapo Marius Bessekon, Managing Director at PwC Luxembourg
Yapo Marius Bessekon, Managing Director at PwC Luxembourg

At PwC, we offer personalised advice to our clients and put at their service an already long experience that dates back to the first certification process, which was conducted in Luxembourg and in which we took part —that is, the European Investment Bank building in 2005.
Since then, we have been supporting clients who own property in the Grand Duchy and in the Greater Region thanks to our knowledge of Belgian, French and German regulations.

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