The Sustainable Finance Disclosures Regulation ("SFDR") applied from 10 March 2021 and financial market participants, which include AIFMs, UCITS management companies and self-managed investment companies ("Fund Management Companies"), were required to comply with a number of high-level principles-based disclosure requirements by that date. These included prospectus updates and website disclosures as well as the updating or preparation of a sustainability risk policy. The SFDR Level 1 requirements are supplemented by more detailed Level 2 requirements ("SFDR RTS") and these requirements are due to enter into force from 1 January 2022. From that date, Fund Management Companies must comply with detailed pre-contractual and annual reporting disclosures and must make these disclosures in the mandatory templates which are set out in the annexes to the SFDR RTS for relevant products. (The requirements around Principal Adverse Impact reporting will be considered in a separate briefing).
In addition, from 1 January 2022, certain Taxonomy Regulation related disclosures will apply to those funds under Articles 8 and 9 SFDR that make sustainable investments with environmental objectives in accordance with the EU taxonomy. This subset of Article 8 and 9 SFDR funds (Articles 5 and 6 Taxonomy Regulation) will be subject to additional disclosure requirements regarding the alignment of their investments with the Taxonomy Regulation.
Further, under the Taxonomy Regulation (Article 7), so-called Article 6 SFDR funds are required to include a negative statement in their prospectuses and annual reports that the underlying investments of the fund do not take into account the EU criteria for environmentally sustainable economic activities.
Therefore, most Irish funds will be required to update their prospectuses ahead of the 1 January 2022 deadline and all funds publishing their annual reports on or after 1 January 2022 will also be required to comply with the prescribed disclosure requirements. Prospectus updates will be required by December 2021 to ensure compliance with the 1 January 2022 deadline.
SFDR Pre-contractual and Annual Report Disclosure
The SFDR RTS set out the form and content of the pre-contractual and annual report disclosures that Article 8 and Article 9 funds must make. These are detailed disclosures and must be made using the mandatory templates as set out in the SFDR RTS, which should be included as annexes to prospectuses and annual reports. In addition, the main body of the prospectus and annual report must include a prominent statement that the relevant sustainability information can be found in these annexes.
The pre-contractual disclosure template requires detailed information about the investment strategy and asset allocation of the fund, whether principal adverse impacts on sustainability are taken into account, and, where an index has been designated as a reference benchmark, information regarding the alignment of the fund with that benchmark. Additional information is also required in respect of products under Article 9 (3) SFDR that have the objective of a reduction in carbon emissions.
The annual report disclosure template requires detailed information on:
- the extent to which the sustainable objective of the Article 9 SFDR fund has been met;
- the extent to which the environmental and/or social characteristics promoted by the Article 8 SFDR fund have been met;
- the fund's top investments during the reference period;
- the proportion of sustainability-related investments;
- the actions that have been taken to attain the sustainable investment objective during the reference period, in the case of an Article 9 SFDR fund, or to meet the environmental and or social characteristics during the reference period, in the case of an Article 8 SFDR fund;
- where relevant, how the fund performed compared to the designated reference benchmark; and
- the fact that more product-specific information can be found on the website and must include a hyperlink to the relevant website.
Taxonomy-related Disclosures
Under the Taxonomy Regulation, Article 8 and Article 9 SFDR funds must also make certain additional disclosures.
Article 9 SFDR Funds
Article 5 of the Taxonomy Regulation provides that where a financial product referred to in Article 9 SFDR invests in an economic activity that contributes to an environmental objective within the meaning of Article 2 (17) SFDR (i.e. it makes a sustainable investment in accordance with SFDR) additional information needs to be disclosed.
The additional information required to be disclosed under the Taxonomy Regulation for Article 9 SFDR products is:
(a) information on the environmental objective/s set out in Article 9 of the Taxonomy Regulation to which the investments underlying the financial product contributes (so, for the purposes of 1 January 2022, this means climate change adaptation and climate change mitigation); and
(b) a description of how and to what extent the investments underlying the financial product are in economic activities that qualify as environmentally sustainable under the Taxonomy Regulation.
The description referred to in point (b) above must specify the proportion of investments in environmentally sustainable economic activities selected for the financial product, including details on the proportions of enabling and transitional activities respectively, as a percentage of all investments selected for the financial product.
Under the Taxonomy Regulation, an economic activity qualifies as environmentally sustainable where it:
- contributes substantially to one or more of the six
environmental objectives, which 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; and
- the protection and restoration of biodiversity and ecosystems;
- does not significantly harm any of these environmental objectives;
- is carried out in compliance with minimum
safeguards. Firms can meet these minimum safeguards by
complying with:
- The Organisation for Economic Co-operation and Development's Guidelines for Multinational Enterprises.
- The United Nation's Guiding Principles on Business and Human Rights.
- The International Labour Organization's Declaration on Fundamental Principles and Rights at Work.
- The International Bill of Human Rights;
- complies with technical screening criteria that have been established by the Commission.
The technical screening criteria, or taxonomy, in respect of climate change mitigation and climate change adaptation are contained in the "Taxonomy Climate Delegated Act" which sets out criteria to help market participants determine what can be considered as "taxonomy-aligned" for the purposes of their disclosure obligations under the Taxonomy Regulation. In order to be considered as "taxonomy-aligned", consideration needs to be given as to whether an activity (i) makes a substantial contribution to climate change mitigation and climate change adaptation, and (ii) does no significant harm to other environmental objectives. The Taxonomy Climate Delegated Act was adopted by the European Commission on 4 June 2021 and, following its publication in the Official Journal, will apply from 1 January 2022. (The technical screening criteria for the remaining four of the six environmental objectives will be published in 2022).
Article 8 SFDR Funds
Article 6 of the Taxonomy Regulation provides that where a financial product referred to in Article 8(1) SFDR promotes environmental characteristics, the requirements of Article 5 of the Taxonomy Regulation also apply. Therefore, the additional disclosure requirements as set out above in respect of Article 9 SFDR funds apply. Article 6 of the Taxonomy Regulation also provides that the following statement must be included in the main body of prospectuses and annual reports:
"The "do no significant harm" principle applies only to those investments underlying the financial product that take into account the EU criteria for environmentally sustainable economic activities.
The investments underlying the remaining portion of this financial product do not take into account the EU criteria for environmentally sustainable economic activities."
Challenges
SFDR RTS still in draft form
To ensure that there is a single rulebook for sustainability disclosures, the ESAs have proposed that these additional taxonomy-related requirements should be incorporated into the yet to be adopted SFDR RTS, rather than create a separate set of taxonomy-related disclosure rules. The consultation on these taxonomy-related requirements closed on 12 May 2021. The SFDR mandatory disclosure templates will also be revised to take account of these requirements and draft non-binding consolidated versions of the revised disclosure templates were provided in this consultation. While the ESAs are expected to adopt these measures in June/July 2021, the European Commission must also adopt them and it has a three-month period within which to do so. While the European Commission can adopt these sooner, there will still be a very tight timeframe between their adoption and their entry into force as at 1 January 2022. Therefore, Fund Management Companies will have to prepare for compliance on the basis of draft measures that could potentially be subject to change ahead of their formal adoption.
Timing
As noted above, most Irish funds will have to update their prospectuses ahead of the 1 January 2022 deadline. This means the updates will have to be filed with the Central Bank by December 2021. Currently, it is unclear what the Central Bank's approach to the filings will be and whether the Central Bank will undertake a full review of the relevant prospectus updates. The Irish Funds Industry Association has asked the Central Bank to consider a fast-track approach to these filings, for both UCITS and AIFs similar to that for the Level 1 filings in March 2021. We are engaged in this process through the Irish Funds ESG Working Group and will keep you updated on developments on the filings.
Next Steps
In light of the tight timeframe for compliance and noting that filings will be required to be made during the already busy pre-Christmas filing period and the holiday period itself, Irish Fund Management Companies should now be preparing their pre-contractual and annual report disclosures to ensure that they can comply with all relevant requirements by 1 January 2022.
This article contains a general summary of developments and is not a complete or definitive statement of the law. Specific legal advice should be obtained where appropriate.
