ESG disclosure rules for banks and insurers will have “significant” impact

Authors: MLT Aikins ESG practice group

The world is still waiting for internationally accepted standards on climate-related financial disclosures – but that hasn’t stopped Canada’s banking and insurance regulator from mandating ESG disclosure by the end of next year.

On March 7, the Office of the Superintendent of Financial Institutions (OSFI) introduced a new guideline that will require federally regulated banks and insurers to account for climate change in their governance practices and financial disclosures. Approximately 400 financial institutions and 1,200 pension plans across Canada will need to comply by the end of the 2024 fiscal year, while smaller institutions have until the end of 2025.

Governance considerations

The guideline will require federally regulated financial institutions (FRFIs) to consider the physical and transition risks posed by climate change in their governance and risk management strategies. This includes maintaining sufficient capital buffers to address climate-related risks and considering the effects of climate change in stress testing – although OSFI stopped short of introducing specific requirements for capital buffers and stress tests for the time being. While there are no requirements around executive compensation, the guideline recommends consideration of whether and how climate-related risk considerations are incorporated into compensation policies and practices.

Financial disclosures

The guideline also requires FRFIs to make reliable, verifiable climate-related financial disclosures annually. While these disclosures will not currently be subject to external assurance, “FRFIs should work toward a future state in which external assurance is expected,” OSFI said.

Even though many industry stakeholders objected to mandatory climate-related financial disclosure in the absence of global reporting standards, OSFI mandated them anyway – noting that the requirements would be updated when the International Sustainability Standard Board (ISSB) publishes the final version of its Standard IFRS S2 Climate-related Disclosures later this year and take effect for annual reporting periods beginning on or after January 1, 2024.

Beginning at the end of 2024, OSFI will require large FRFIs to:

  • Disclose their annual Scope 1 and 2 greenhouse gas (GHG) emissions
  • Disclose the reporting standards they used to measure GHG emissions
  • If the reporting standard is not the GHG Protocol Corporate Standard, explain how it is similar and why it was used

Small and medium-sized institutions will be subject to the Scope 1 and 2 reporting requirements at the end of 2025. At the same time, OSFI will additionally require large FRFIs to:

  • Disclose their annual Scope 3 GHG emissions
  • Disclose the reporting standard they used to measure Scope 3 emissions
  • If the reporting standard is not the GHG Protocol Corporate Value Chain (Scope 3) Accounting and Reporting Standard, explain how it is similar and why it was used
  • If the reporting standard for financed, facilitated and insured Scope 3 emissions is not the Partnership for Carbon Accounting Financial (PCAF) Global GHG Accounting and Report Standard for the Financial Industry, explain how it is similar and why it was used

Smaller FRFIs will have until the end of 2026 to begin reporting Scope 3 emissions.

FRFIs will also be required to disclose the targets they used to manage climate-related risks and their performance against those targets, as well as their public commitments to any industry-led net zero alliances, such as the Net-Zero Banking Alliance or Net-Zero Insurance Alliance.

What’s not in the guideline is equally important

Despite many applauding this guideline, others worry that it leaves out concepts and information requirements that are key to decarbonization. The concerns are not only about the need for binding rules that can be enforced. Some argue that without a clear focus on “double materiality,” the disclosures will not describe how FRFIs’ activities and investments impact the existence or velocity of climate-related risks through financed emissions. Other respondents to OSFI’s draft guideline highlighted the lax rules around capital allocation and transition plans to be 1.5℃-aligned. Lastly, since disclosures are not required to be integrated into other corporate financial reports, many fear an increase in so-called greenwashing.

New guideline will have a “significant” impact

In an interview with the Financial Post, MLT Aikins ESG practice lead Conor Chell said OSFI’s guideline would have a “significant” impact on banks and insurers.

“In speaking to clients subject to these rules, there is significant and additional work required in order for banks and insurers to meet the OSFI guidelines,” Conor said, adding that FRFIs are now making substantial investments into tools to measure and report on their climate risks.

The Government of Canada first announced its plan to introduce mandatory climate-related financial disclosures for banks and insurers in last year’s federal budget.

OSFI’s new guideline comes amid heightened scrutiny of corporate ESG disclosure around the world, with Canada’s largest bank now being investigated over allegations of greenwashing and Shell shareholders seeking to hold the company’s directors personally liable for Shell’s ESG strategy.

As the crackdown on greenwashing continues, so does the march toward global standards for climate-related financial disclosures. In a future blog, we’ll breakdown and compare climate-reporting guidelines proposed by the ISSB, Canadian Securities Administrators, the U.S. Securities and Exchange Commission and OSFI.

In the meantime, mandatory reporting requirements for FRFIs will not only impact banks and insurers – but anyone who does business with a bank or insurer. To learn more about what these reporting requirements will mean for your organization and how you can prepare, contact our ESG team.

Note: This article is of a general nature only and is not exhaustive of all possible legal rights or remedies. In addition, laws may change over time and should be interpreted only in the context of particular circumstances such that these materials are not intended to be relied upon or taken as legal advice or opinion. Readers should consult a legal professional for specific advice in any particular situation.