The European Commission has unveiled major proposed revisions to the Sustainable Finance Disclosure Regulation (SFDR), designed to make it easier for investors to identify and compare sustainability-focused investment products and to reduce the reporting burden on asset managers and pension funds.
A key change in the proposal is the introduction of new fund categories that reflect the sustainability or transition characteristics of financial products, along with simplified disclosure requirements for financial market participants. Since its introduction in 2021, the SFDR has governed how asset managers communicate sustainability risks, adverse impact considerations, and sustainability-related information to investors. Its main objective is to support the flow of private capital into sustainable activities and help businesses navigate transition opportunities.
The Commission’s proposal follows a broad 2023 review of the SFDR, which found that current disclosure requirements are overly long and complex, limiting investor understanding and comparison of financial products. The review also highlighted concerns over the widespread misuse of Article 8 and Article 9 classifications as de-facto sustainability labels. This practice may have led investors to assume that Article 9 funds are fully sustainable and Article 8 funds strongly integrate ESG factors—even though this may not always be accurate—thus increasing greenwashing risks.
To address these issues, the Commission proposes replacing the Article 8 and 9 regime with a simplified three-tier categorization system for products making ESG claims:
1. Sustainable
For products contributing to sustainability goals (climate, environmental, or social) and already meeting high sustainability standards.
2. Transition
For products investing in companies or projects that are not yet sustainable but are on a credible transition pathway or contribute to improvements in environmental or social areas.
3. ESG Basics
For products that do not meet the Sustainable or Transition criteria but still integrate ESG approaches—e.g., best-in-class strategies or exclusions of poor ESG performers.
Under the proposal, at least 70% of a fund’s portfolio must align with the ESG strategy corresponding to its category. Categories are differentiated by exclusions (activities or sectors that cannot be invested in) and positive contribution criteria.
For example:
· Both Sustainable and Transition funds would exclude companies expanding fossil fuel operations.
· The Sustainable category would additionally exclude companies active in fossil fuels or high-emitting energy sectors.
· The Transition category would apply a narrower exclusion—e.g., companies with significant coal revenues.
· The ESG Basics category would also exclude companies with significant coal exposure. All categories share social exclusions, including companies violating human rights norms.
The proposal also aims to reduce compliance burdens for financial market participants. Notably, it removes the current requirement for large firms (those with more than 500 employees) to provide entity-level disclosures on their consideration of Principal Adverse Impacts (PAIs). Product-level disclosures would be streamlined, focusing only on clear, comparable, and meaningful data aligned with the new categories. The Commission added that the new disclosure format will be more retail-friendly, enabling investors to quickly understand the sustainability characteristics of each product.
