EU Carbon Border Adjustment Mechanism - Taxing future carbon emissions

The UK and other governments know that to meet their net zero targets for carbon emissions domestically, they could be putting their industries at a cost disadvantage. There is also a risk that, overall, the effect may be to 'export carbon emissions' to other countries (who have not imposed tougher emissions standards) by importing cheaper goods from them. 'Carbon leakage' through importing products made with high carbon emissions in other countries is a well-established problem and needs to be addressed directly if net zero targets are to be meaningful and achieve reduced global warming targets.

Logically, such issues are for the World Trade Organisation to resolve - for example, through a global standard on carbon emissions, but governments know that this could take many years to achieve - time we do not have. Therefore, in a move that echoes the adoption of Digital Sales Taxes ahead of the OECD's pillar 1 and 2 reforms, both the EU and now the UK have adopted measures to address carbon leakage across their borders.
 

CBAM: EU legislation affecting UK exporters

Starting from 1 October 2023, the EU introduced new rules to ensure that CO2 emissions created in manufacture of goods imported in the EU ("embodied emissions") are recorded and reported within the EU – the first returns are due by 31 January 2024. Although reporting requirements for the Carbon Border Adjustment Mechanism (CBAM) have been implemented, it won't be until 2026 that businesses will have direct costs under the scheme. It is envisaged businesses will then have to purchase certificates under the EU Emissions Trading Scheme to cover the imports of such goods - effectively increasing their price and taxing the related emissions.

Read more detail on the EU legislation here.
 

UK proposals

The UK government has launched a scoping consultation on a wider range of proposals to address future carbon leakage including:

• A CBAM style solution linked to the UK's own emissions trading scheme
• Mandatory product standards - ie legally enforced maximum embodied emissions for different products sold (or imported for own use) in the UK
• Growing the market for low carbon products - for example, by labelling schemes that tell the consumer how much carbon is emitted in the manufacture of the goods encouraging the purchase of greener products and through government procurement policies.
   

A key element of any scheme will be to achieve efficient measurement of the carbon emissions embodied in products (you have to measure it before you can tax it!) and proposals for this are the second key strand of the consultation.

The document is focused on defining the scope of future CBAM framework and setting out potential options rather than consulting on specific proposals. Given the global nature of the problem, it is possible that it may yet be overtaken by developments at the WTO.
 

What goods are covered under CBAM regulations?

The EU legislation covers a number of heavy industrial sectors where carbon emissions are already known to be problematically high including:

• Aluminium, iron and steel
• Cement
• Electricity
• Fertilizers and hydrogen.
   

The scheme also applies to certain precursors (basic materials that are used as inputs in the production of CBAM goods) and a few downstream products (e.g., screws and bolts). It is expected that this list of materials we be expanded over time as the deadline for achieving net zero approaches.

The scope of the UK proposals (the products and sectors it will cover) is part of the consultation but it would be surprising if it were not to mirror or at least echo the scope of the UK’s current Emissions Trading Scheme. Therefore it is likely to cover:

• Cement, chemicals, fertiliser and glass
• Iron and steel, non-ferrous metals
• Non-metallic minerals
• Paper and pulp
• Power generation
• Refining.
   

At present, the scope of both 'upstream' and 'downstream' emissions to be included is not decided so could end up being rather wider in application than the EU legislation over time.
 

Timelines

The UK proposals do not envisage reporting on carbon emissions until 2025 at the earliest with any cut in current free allowances under the UK Emissions Trading Scheme not likely until at least 2026 - so importers will have time to follow developments and amend their supply chain arrangements. The complexity of measuring carbon emissions in a consistent way across producers in many countries and how to arrive a common methodology that can be internationally recognised and adopted illustrates why it may be some time before UK proposals are implemented - even if a backup system of ‘default values’ as in the EU CBAM is adopted. Read the UK consultation here.

However, as the EU legislation is much more advanced, it is expected that UK businesses exporting to the EU will be affected first with the administrative reporting burden starting this year (including the need to appoint an EU based reporting agent if the UK business has no footprint in the EU).

Download our flyer

How we can help

CBAM risk assessments

If you think your business could be exposed to the new EU CBAM regulations, we can help you determine: 

• The extent to which your goods are covered by CBAM
• Your reporting requirements as a supplier to EU customers or a direct importer into the EU
• What data you are required to collate and report

CBAM Training

If you need to educate your staff on CBAM regulations, we can provide your staff with sector specific practical training on:

• What CBAM is and how it will work
• How to determine whether goods are subject to CBAM
• Data requirements for reporting for your industry
• How to prepare and submit your CBAM reports

CBAM reporting service

You can outsource the completion of your CBAM quarterly reporting to our expert team.

To discuss how we can best support your business, please get in touch with Matthew Clark.