Overview
The EU Taxonomy is a classification system, established under the EU Taxonomy Regulation (2020), that answers a deceptively simple question: what counts as “green”? It does this by setting technical criteria for economic activities, not companies as a whole, that make a substantial contribution to environmental goals. If an activity meets the criteria, it can be labelled taxonomy-aligned. If it does not, it cannot legitimately be marketed as sustainable to EU investors or consumers.
The Taxonomy is one of the cornerstones of the EU Green Deal and the EU’s broader sustainable finance architecture. It underpins what gets reported under the CSRD, what funds can claim under the SFDR, and what qualifies as a use of proceeds for Green Bonds issued and marketed in Europe. Understanding it is essential for anyone communicating about European green finance.
The Taxonomy currently covers six environmental objectives: climate change mitigation, climate change adaptation (see Adaptation vs Mitigation), sustainable use of water and marine resources, transition to a circular economy, pollution prevention and control, and protection of biodiversity and ecosystems. An activity must contribute substantially to at least one objective and do no significant harm (DNSH) to any of the others.
The Three-Part Test
Every activity assessed against the Taxonomy must pass three gates to qualify as sustainable.
The first gate is a substantial contribution to at least one of the six environmental objectives. Technical Screening Criteria (TSC) define what “substantial” means for each activity in each sector. For climate mitigation, this often means meeting a specific emissions threshold (e.g., lifecycle CO2 equivalent per kilowatt-hour for electricity generation).
The second gate is Do No Significant Harm (DNSH) to any of the other five objectives. An activity that dramatically cuts carbon emissions but destroys biodiversity, for example, would not pass. This is one of the most technically demanding parts of the Taxonomy in practice, it requires multi-criteria assessment across all six objectives.
The third gate is compliance with minimum social safeguards, alignment with international norms on labour rights, human rights, and anti-corruption (referencing OECD Guidelines for Multinational Enterprises and UN Guiding Principles on Business and Human Rights). The Taxonomy is explicitly not just an environmental standard.
What Gets Included (and What Doesn’t)
The Taxonomy covers activities in sectors that collectively account for most EU emissions: energy, transport, manufacturing, construction and real estate, water and waste, and ICT. Delegated acts, secondary legislation, set the specific technical criteria for each sector. These have been politically contested, most notably around gas and nuclear energy.
In 2022, the European Commission published a controversial delegated act including natural gas and nuclear energy as taxonomy-aligned under specific conditions. Gas was included as a “transitional” activity (recognising the role of gas in replacing coal in some contexts) and nuclear as a “do no significant harm” case. Both remain contested and have been challenged in court by environmental groups.
The Taxonomy does not currently cover all economic activities. Agriculture, certain services, and smaller sectors are still being developed. A “social taxonomy”, covering social objectives, has been discussed but not yet legislated.
Reporting Obligations
Large companies covered by the CSRD must report what percentage of their revenue, capital expenditure (CapEx), and operating expenditure (OpEx) is taxonomy-aligned. This “KPI reporting” is one of the most data-intensive requirements companies face. For financial firms, the Key Performance Indicator is the “Green Asset Ratio”, the share of assets that are taxonomy-aligned.
These disclosures create real accountability. Investors and analysts use taxonomy alignment data to assess how credibly a company is transitioning. Misrepresenting taxonomy alignment is a specific form of Greenwashing that EU regulators are actively monitoring.