SFDR II: Negotiations Continue as European Parliament Vote Slips to September

SFDR II would replace the current Article 6, 8 and 9 labels with three categories — Sustainable, Transition and ESG Basics — but the final eligibility tests, exclusions and disclosure requirements remain under negotiation. Managers should begin product mapping and data-gap work now, while treating recategorisation outcomes as provisional until the European Parliament votes on 10 September 2026 and trilogue negotiations conclude. This briefing summarises the European Council’s and Parliament’s positions, the market outlook and the practical implications for private equity.

1. The European Council’s Position

On 24 June 2026, the Council agreed its negotiating position ahead of trilogue negotiations, which are expected to begin once Parliament has adopted its own position. The Council broadly supports the European Commission’s three-category architecture:

• Sustainable: Products with a clear sustainability-related objective and investments that meet the relevant high standards.
• Transition: Products directing investment toward companies, business activities or assets with a credible plan or other credible means of contributing to a sustainability-related transition.
• ESG Basics: Products that integrate sustainability factors beyond the consideration of sustainability risks but do not qualify as Sustainable or Transition products.

Key features of the Council’s position (which includes points from the original Commission text) include:

• Mandatory PAI indicators: Products seeking Sustainable or Transition status would need to use at least three mandatory principal adverse impact (PAI) indicators. PAIs are metrics used to measure how investments may adversely affect sustainability factors.
• Professional-investor AIFs carved out: Alternative investment funds marketed exclusively to professional investors would not be required to apply the new categorisation regime.
• 70% threshold: To qualify for a category under Article 7, 8 or 9, at least 70% of a product’s underlying investments would need to satisfy the relevant criteria. In practical terms, managers will need to test both the asset-level composition and the applicable exclusions.
• Grandfathering: Asset managers establishing a closed-ended fund before SFDR II takes effect could choose not to apply the new regime to that fund. That legal opt-out may not remove commercial pressure from LPs that expect SFDR II categories and disclosures.

The Council’s position also seeks greater consistency between SFDR II and existing sectoral legislation, including MiFID II and PRIIPs. It clarifies that the categorisation regime would operate alongside the rules governing different types of financial products and proposes a review of whether structured products should fall within its scope.

2. The European Parliament’s Position

Parliamentary progress has been slower. Almost 600 amendments were tabled following the ECON Rapporteur’s draft report, and the planned 15 July ECON vote was postponed. The vote is now expected on 10 September 2026, with a plenary vote expected in the week of 14 September.

The latest compromise amendments dated 14 July 2026 suggest the following key areas of divergence from the Council’s position:

• Tighter Transition exclusions: New projects for the exploration, extraction, distribution or refining of coal, lignite, oil or gas would be excluded outright. Coal-fired power generation would also be excluded unless there is a time-bound and measurable phase-out plan. Companies deriving revenue from oil and gas would be excluded unless they meet all three of the following: (i) at least 20% of total CapEx is Taxonomy-aligned; (ii) over a rolling three-year period, more CapEx is directed to Taxonomy-aligned activities than to prolonging existing oil and gas operations; and (iii) the company has a time-bound and measurable Scope 1 and 2 reduction strategy consistent with the Paris Agreement. Investments involved in severe human-rights abuses that have not been effectively addressed and remediated would also be excluded.
• Sustainable exclusions: The compromise applies most of the Paris-aligned benchmark exclusions to Sustainable products and also excludes specified new fossil-fuel projects, coal-fired power generation without a phase-out plan and companies involved in severe, unremediated human-rights abuses.
• Taxonomy-alignment thresholds: The latest compromise amendments provide separate carve-outs — Transition (Article 7) has a 15% Taxonomy-alignment threshold, while Sustainable (Article 9) has a 20% threshold.
• Narrower mandatory PAI indicators: For Sustainable and Transition products, the mandatory indicators would cover greenhouse-gas emissions and fossil-fuel exposure, together with at least one further Article 19b indicator most relevant to the product’s objective. An alternative methodology would be permitted only where none of the listed indicators are demonstrably relevant. This is narrower than the Council’s broader three-indicator approach.
• ESG Basics: Products would use mandatory indicators for greenhouse-gas emissions and fossil-fuel exposure, with additional PAI indicators remaining voluntary. They would also exclude investments involved in severe and unremediated human-rights abuses. Importantly, the latest amendments remove the earlier requirement to eliminate the bottom 20% of lowest-rated securities (or the lowest values for the relevant indicator) when applying the ESG Basics test. This reduces a potentially significant dependency on ratings coverage and rating-provider methodologies.
• Safe harbours: For Transition products, both the EU Climate Transition Benchmark (CTB) and EU Paris-aligned Benchmark (PAB) deemed-compliance routes are retained. For Sustainable products, only the PAB route is retained; the CTB route is not.
• Commission guidance softened: The latest amendments change the earlier compromise text’s mandatory “shall issue” practical guidance on credible transition plans, science-based targets and engagement strategies to discretionary “may issue” guidance. Parliament has therefore softened its position on this point.

A number of issues remain under negotiation, including the treatment of fossil-fuel investments, entity-level disclosures, sovereign bonds and the detailed technical criteria for each category.

3. Other Interesting Points

The compromise amendments also address the following matters:

1. Entity-level category reporting: Asset managers would disclose the proportion of assets under management (AUM) and number of products invested in each category, relative to total AUM and total products.
2. Entity-level PAI and remuneration disclosures: The proposed PAI and remuneration disclosures at entity level would be deleted.
3. Non-categorised products: Disclosures about how a product considers sustainability factors would remain voluntary, subject to anti-greenwashing safeguards. The information must be accurate, must not amount to an Article 7, 8 or 9 claim, and must remain secondary to the investment strategy (in practice, less than 10% of the presentation).
4. Phase-in periods: Product documentation would need to describe any phase-in period needed to reach the 70% threshold.
5. Article 9a: The proposed category for products claiming to combine categorised sustainability-related products would be retained where the relevant Article 7, 8 and/or 9 criteria are met for 70% of investments.
6. Website disclosures: The requirement to publish category and related sustainability information on the manager’s website would remain.
7. Sustainable investment: The existing concept of “sustainable investment” would be removed from the revised framework.

4. Market Outlook/Industry Perspective

Market participants are already preparing for SFDR II, even though the legal text is not final. The early market view is broadly optimistic, but the practical exercise is likely to involve more than a simple relabelling of existing funds:

• Asset managers are already mapping product ranges onto the proposed categories, testing flagship strategies against the eligibility criteria and considering what investors and distributors may want to buy. Few managers appear to be waiting for the final text before starting preliminary assessments.
• Many Article 8 funds may not automatically migrate to ESG Basics.
• For private equity, closed-end funds are expected to have an opt-out under the current proposals.
• The 15% Taxonomy-alignment carve-out remains a focus for private market investors, where Taxonomy alignment may be more relevant to investment strategy and asset-level transformation.
• Data availability remains a practical concern, particularly for exclusion tests and the calculation of oil and gas revenues for combined producers.

5. Timetable

• 10 September 2026: Vote in the ECON Committee.
• Week of 14 September 2026: Expected Parliament plenary vote.
• Last week of September/first week of October 2026: Trilogue negotiations between the Commission, Council and Parliament are expected to begin once Parliament has adopted its negotiating mandate.
• Late November/early December 2026: Trilogue negotiations are expected to continue through the autumn and, if agreement is reached in a timely fashion, a final text may be available by the end of the year.

6. What This Means in Practice

The Council and Parliament are converging on the same broad architecture, but firms still lack sufficient certainty to make definitive recategorisation decisions. The final eligibility tests, exclusions, PAI requirements and entity-level disclosures remain subject to negotiation. For private equity managers, the sensible approach is to use the current text for scenario planning and data preparation, not as a final classification decision.

• Product mapping: Start a fund-by-fund assessment against all four potential outcomes — Sustainable, Transition, ESG Basics and non-categorised — rather than assuming current Article 8 or Article 9 labels will carry across.
• Eligibility testing: Model the 70% threshold and category-specific exclusions, including the separate 15% “Transition” and 20% “Sustainable” Taxonomy-alignment carve-outs and the different benchmark safe harbours.
• Data and documentation: Identify gaps in PAI, Taxonomy and exclusion data, especially oil and gas revenue calculations, and test the availability of evidence supporting transition plans, science-based targets and engagement.
• Private equity and vintages: Assess whether the closed-ended fund opt-out is commercially useful. Even where it is available, consistent categorisation across vintages may support fundraising, LP reporting and portfolio monitoring.
• Disclosure and governance: Review fund names, marketing materials, and pre-contractual and periodic disclosures, and establish a process to revisit assumptions as Parliament and the trilogue negotiations develop.