A deeper dive into the first round of consultation on Australia's Sustainable Finance Taxonomy

The Australian Sustainable Finance Institute (ASFI) released a public consultation paper on Australia's Sustainable Finance Taxonomy (Taxonomy) on 28 May 2024. Our initial Insight, First round of public consultation on Australia's Sustainable Finance Taxonomy, outlined the nature and purpose of the Taxonomy and consultation. This consultation focuses on three priority sectors:

• Electricity generation and supply;
• Minerals, mining and metals; and
• Construction and the built environment.

In this Insight, we explore those sectors in detail.

A second ASFI consultation in Q4 2024 will include climate change mitigation criteria for transport, manufacturing and industry and agriculture and land, a 'Do No Significant Harm' framework, Minimum Social Safeguards and proposed advice on how taxonomy users can demonstrate alignment with the taxonomy.

Consultation objectives for the priority sectors

ASFI has prioritised sectors and activities that are 'Australia's high-emitting sectors, are instrumental in facilitating the transition to net zero; and/or have a substantial role in a net zero economy based on current technological readiness levels'.

The objectives of the Taxonomy are twofold:

• to drive capital into economic activities that will decarbonise the Australian economy at the speed and scale required to reach our climate change targets; ¹ and
• to improve the quality of information available to the market by standardising sustainability definitions to make them credible, comparable and useable.

ASFI seeks feedback on:

1. the headline ambitions, articulated as long-term goals that underpin the six environmental objectives of the taxonomy; and
2. whether the draft climate change mitigation criteria for assessing the performance of the three priority sectors align with the core principles established by Treasury for the Australian taxonomy – credibility, useability, interoperability and prioritisation for impact.

The consultation closes at 9pm (AEST) on Sunday 30 June 2024.

Categorising activities under the Taxonomy

Under the proposed Taxonomy, activities would be categorised as 'green' or 'transition' based on:

1. the nature of the activity (i.e. whether emissions associated with the activity can be reduced or removed. If emissions cannot be reduced or removed, the activity is classified as 'phase down' because, at present, the only feasible pathway to decarbonisation is for that activity to be phased down or out); and
2. the performance of the activity (i.e. how an activity is performing according to the technical screening criteria (TSC) and whether this is sufficient to be considered green or transition). ²

The proposed Taxonomy is structured in line with:

• commitments under the Paris Agreement to limit the temperature increase to 1.5°C above pre-industrial levels;
• commitments in the Climate Change Act 2022 (Cth) to reduce emissions by 43% below 2005 levels by 2030 and to achieve net-zero by 2050; and
• the federal government's target of 82% renewable energy in Australia's energy generation mix by 2030.

The proposed Taxonomy also intends to complement other direct measures implemented by the federal government to attract private capital into the decarbonisation of electricity generation, including the Capacity Investment Scheme (a national framework to encourage new investment in renewable energy and storage).

Energy generation

The proposed Taxonomy provides that certain energy generation activities (solar photovoltaic and concentrating solar-thermal power (CSP), onshore and offshore wind, and electricity generation from ocean energy) are 'directly eligible' and have no additional TSC before 2030 in order to be green. The TSC post-2030 for these activities are not indicated, and will be considered in the next round of consultation, scheduled for Q4 2024.

We expect that in the next round of consultation, ASFI will seek feedback as to whether the Taxonomy should apply an emissions intensity threshold measured during the life cycle of a power plant post-2030 (consistent with other forms of energy generation covered in the proposed Taxonomy). Regardless of the approach that is ultimately taken in the Taxonomy, we expect that the date from which any additional TSC for solar and wind will be subject to regular review and adjustment, having regard to the actual deployment of renewable generation by 2030.

Other forms of electricity generation activities, including hydropower, geothermal and bioenergy are not 'directly eligible' and must meet TSC before being classified as green. Generally, until 2030, these activities must achieve an emissions intensity of less than 100g CO2e/kWh during their life cycle. Certain activities have additional TSC, with bioenergy (as an example) required to produce energy from waste or feedstock that complies with existing reputable standards (including the Forest Stewardship Council (FSC) and International Sustainability and Carbon Certification).

Energy storage

Energy storage is essential to enable the move from fossil fuel baseload power to variable renewable generation. ⁴ It therefore plays a key role in the decarbonisation of the electricity sector. Consistent with this important role, the construction and operation of mechanical, thermal, electrochemical and pumped energy storage technologies are 'directly eligible' to be green under the proposed Taxonomy.

Interestingly, chemical energy storage activities (storing energy in chemical fuels, e.g. hydrogen) are subject to upstream TSC in the proposed Taxonomy, rather than being directly eligible to be green. These activities are required to comply with the TSC applying to the manufacturing of the relevant chemical. By contrast, because electrochemical storage technologies are directly eligible, that lithium-ion batteries (by way of an example) are not directly subject to any TSC (even though there are concerns as to the environmental impacts of the manufacturing of lithium ion-batteries). That said, the proposed Taxonomy to some degree addresses concerns with respect to certain minerals used in electromechanical storage, by including criteria for the minerals, mining and metals sector, including specific TSC for lithium (discussed further below).

Transmission

Alongside electricity generation and storage, transmission is the other limb essential for the transition to renewable electricity generation. There are TSC that apply to transmission and distribution infrastructure activities to determine whether they are green. Broadly summarised, until 2030, infrastructure for new or existing power plants with lifecycle energy intensities less than 100g CO2e/kWh, or that are on a 'decarbonisation trajectory', will be green. Thresholds for post-2030 will be considered in the subsequent consultation.

Transmission and distribution of renewable and low-carbon gases is another activity covered in the Taxonomy. There are TSC that indicate such activity must be new or retrofitted pipelines transporting 100% hydrogen and/or its derivatives or low-carbon gases, such products being transported must meet their respective taxonomy criteria, and the activity must implement measures and plans to detect and avoid leakage.

What's not included

The current consultation draft does not include hydrogen production, which will be included in the subsequent consultation (as part of manufacturing and industry). With the recent federal budget allocating funding to support the production of a low carbon liquid fuels (LCLFs) industry, and the anticipated role of LCLFs and hydrogen in the decarbonisation of hard to abate (principally industrial and transport) sectors, it will be interesting to see if the Taxonomy includes LCLFs production or whether, like carbon capture and storage (which is excluded from the Taxonomy), LCLFs will not meet the technological readiness level required. It will also be interesting to follow whether, as the Taxonomy adapts, electricity production from hydrogen and LCLFs (such as a replacement for diesel in remote generation) will be activities covered by the Taxonomy.

The federal government also recently announced the 'Future Gas Strategy', outlining the central role of gas in providing firming power through to 2050. Gas firming has not been included in the scope of the proposed Taxonomy at an activity level, which may reflect that the role of gas in energy transition has been unclear until very recently. However, the Taxonomy will explore providing guidance to assess gas firming at a systems-level where gas is part of a transitioning portfolio of assets.

Adaptability

Whilst the proposed Taxonomy is directed towards technologies that are proven and commercialised now (such as solar and wind), it is structured to be flexible and capable of accommodating new and evolving technologies and knowledge, and to adapt to the inevitable changes in the pathway taken in Australia to achieve decarbonisation objectives. As has been the experience of many other countries to date, the pathway to decarbonisation is challenging, unclear and subject to significant, and sometimes rapid, change. In this context, it will be interesting to see how and at what pace the Taxonomy will adapt to these inevitable challenges and changes.

Minerals, mining and metals

The demand for metals that are required for clean energy infrastructure and technology (in particular, copper, nickel, lithium and cobalt) is expected to increase significantly in the coming years. The key challenge for the sector is ensuring that sustainable methods are embedded in the production and processing of these metals.

At present, there is no widely accepted global framework to determine which mining and mineral processing methods may be considered sustainable for financing purposes. Australia is the first jurisdiction to propose green and transition climate mitigation criteria for the mining sector for the purpose of financing. This is important given the mining sector comprises a significant part of the investment portfolios of many of the world's sources of private capital, including asset managers, pension funds, and private equity firms. The challenge is ensuring that the Taxonomy is accepted by the minerals, mining and metals sector as a whole, to encourage sector wide investment in the transition.

The proposed Taxonomy's initial green and transition criteria are aimed at decarbonising mining activities for copper, iron ore, lithium and nickel towards 1.5°C pathway alignment. The criteria apply to mining and on-site refining only (but not downstream processing activities).

The proposed Taxonomy distinguishes iron ore (on the one hand) and copper, lithium and nickel (on the other) because of iron ore's markedly larger carbon footprint (in particular when scope 3 emissions are considered). In addition to other measures, for an existing iron ore mine site to be green, it must either:

• have an offtake agreement in place to supply more than 25% of the current volume of iron ore to a low carbon steel producer (with more than 50% of volume produced at mine site agreed to be part of the offtake agreement by 2030); or
• have offtake agreements with whole entities that are decreasing steel production emissions in line with a 1.5°C pathway. These are ambitious thresholds (which is acknowledged by ASFI).

ASFI is actively considering the inclusion of other minerals in addition to iron ore, copper, lithium and nickel, and we expect that future iterations of the taxonomy will apply to downstream processing activities; and impose scope 3 emission requirements for all minerals, not just iron ore. Given the trajectory of the taxonomy and its expansion over time, as well as the imminent introduction of an Australian mandatory climate-related financial disclosures Australian mining sector participants should consider the sustainability of the entire value chain now, including minerals not yet named in the Taxonomy and scope 3 emissions.

Construction and the built environment

Decarbonising the building sector is also seen as an essential step towards meeting Australia's emissions reduction and net zero targets, with the proposed Taxonomy focused on the decarbonisation of both building construction and operation.

Strategies to decarbonise the building sector include transitioning away from fossil fuels (to occur as the electricity grid decarbonises), electrification, improving energy efficiency through retrofits and renovations of existing buildings, reducing construction impacts, minimising emissions and improving energy efficiency in new builds and on-site renewable energy generation.

In the built environment sector, activities are categorised as 'direct' (e.g. constructing new buildings, acquiring/owning buildings and renovating) or 'supporting' (e.g. installing equipment and appliances, manufacturing and supplying equipment and infrastructure to support low emission precincts). TSC for these activities consider emissions from materials, future operational emissions, and the use of low-emission technologies.

The proposed Taxonomy also provides guidance around the emissions boundaries for each activity. In respect of new buildings, this includes scope 1 and 2 emissions, as well as scope 3 emissions embedded in construction materials and associated with building operations. In respect of existing buildings, emissions boundaries will depend on the use of the building. Where a building is owned to generate rental income, then the boundary is the scope 1 and 2 emissions associated with the base building. However, where operations and guest impacts are difficult to distinguish (e.g. hotels, nursing homes, and supermarkets), the boundary includes the entire scope 1 and 2 emissions of both the base building and its occupants. The methodology for the TSC includes sectoral carbon budgets for each of the non-residential buildings sector, residential building sector and refrigerant emissions from 2024, with such budgets declining each year and reducing to near zero by 2050.

A phased implementation is proposed to give industry time to prepare, involving:

• introducing the transitional criteria as well as green criteria without screening for embodied carbon in new construction and synthetic greenhouse gases in new construction, acquisition and ownership and renovation and upgrade activities;
  
  
• a sunrise date approximately two years later, upon which embodied carbon and synthetic greenhouse gas requirements are triggered; and
  
  
• a sunset date upon which the transitional screening criteria will cease.

ASFI is seeking feedback as to whether two years is the appropriate period to enable industry to prepare for the introduction of the full green screening criteria.

The TSC are supported with guidance on assessment methods, and where possible, utilise existing methods such as NABERS, the Green Star Rating system and the Nationwide Housing Energy Rating Scheme. Further information as to the ability to use these methods as proxies will be made available in the subsequent consultation.

The TSC for new construction are proposed to include a requirement to provide renewable energy generation (i.e. rooftop solar). ASFI is seeking specific feedback on the inclusion of this criteria, including whether it should exist and, if so, whether it should be limited to some building types. We expect that the inclusion of this criteria will be a point of which ASFI receives diverse feedback, particularly as to whether such condition should apply to post-2030 activities when it is expected that a significant percentage of the electricity from the grid will be generated from renewable sources by that time.

The proposed Taxonomy's treatment of construction and the built environment positively complements other measures seeking to drive the decarbonisation of the built environment. These measures include the NSW Government's recently released 'Decarbonising Infrastructure Delivery Policy' which applies to all NSW Government infrastructure delivery agencies, and aims to reduce upfront carbon in infrastructure (including schools and hospitals). There is broad support for decarbonising the construction and built environment sector from a range of industry participants. Clearer guidance as to emissions thresholds and priority areas for decarbonisation, and tools for measurement of emissions, as provided by the Taxonomy and other complementary policies and guides, are likely to help direct industry participants' focus to those areas that will have the greatest contribution towards net zero.

Next steps

ASFI is seeking feedback on the draft Taxonomy by 30 June 2024 – now only a little over a week away. We encourage you to consider what the implications of the proposals may be for your business and to make a submission on the areas which are open for consultation. If you would like more information or assistance, please don't hesitate to contact us.

Footnotes
¹ By 2030, emissions reduced by 43% below 2005 levels and net zero by 2050.
² Generally, TSC are determined by reference to emissions intensity thresholds aligned with 1.5C-aligned pathways, based on the International Energy Agency's Net Zero Emissions scenario (NZE2050 model, which is commonly used as a reference in global capital markets) and the Australian 1.5C scenario developed by Climateworks Centre in partnership with the CSIRO.
³ International Energy Agency, 'Australia 2023' (Energy Policy Review, 2023) (https://www.iea.org/reports/au...) cited in Australian Sustainable Finance Institute, 'Australian Sustainable Finance Taxonomy V0.1' (Public Consultation Paper, May 2024) https://www.asfi.org.au/s/781ASFI_Australian-Sustainable-Finance-Taxonomy_v11.pdf.
⁴ CSIRO, Diverse array of energy-storage technologies may be key to firming the grid (Web Page, 19 January 2021) (https://www.csiro.au/en/news/all/articles/2021/january/diverse-array-of-energy-storage-technologies-may-be-key-to-firming-the-grid) cited in Australian Sustainable Finance Institute, 'Australian Sustainable Finance Taxonomy V0.1' (Public Consultation Paper, May 2024) (https://www.asfi.org.au/s/781ASFI_Australian-Sustainable-Finance-Taxonomy_v11.pdf).

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.

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