Legal development

UK carbon border adjustment mechanism (UK CBAM) to be implemented by 2027

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    On 18 December 2023, as part of a package of consultations and responses on carbon leakage and the UK ETS, the UK Government announced that it will introduce a UK CBAM by 2027.

    The UK Government's December 2023 response1  to its March 2023 consultation on potential policy measures to mitigate carbon leakage risk has confirmed it will introduce a UK Carbon Border Adjustment Mechanism (UK CBAM) by 2027.

    The EU adopted its own CBAM last year, please see our earlier Briefing On EU Carbon Border Adjustment Mechanism and Consultation on UK CBAM.

    This summary sets out the key information available so far.

    1. When will the UK CBAM start?

    The government has committed to implement the UK CBAM "by 2027". A commencement date has not been given. Further consultation on the design and delivery of UK CBAM is expected in 2024.

    The EU CBAM started with a transitional phase from 1 October 2023, and will come into full effect from 1 January 2026. The UK government has faced calls from industry to adopt a timeline that aligns to the EU CBAM2.

    2. What will the UK CBAM do and how will it work?

    Similar to the EU CBAM, the UK CBAM aims to reduce carbon leakage risk, that is the risk of emissions associated with production of carbon-intensive goods moving to jurisdictions with less stringent policies on emissions reduction. It tackles this risk by subjecting goods to a comparable carbon price regardless of their country of origin.

    Under the UK CBAM, a charge is to be levied on goods imported from countries that maintain a lower price of carbon and countries with no pricing on carbon. This design aspect is different and potentially more simple than the EU CBAM, where in-scope importers must purchase CBAM certificates.

    3. Which goods and sectors will the UK CBAM apply to?

    Also similar to the EU CBAM, the UK CBAM will apply to goods from energy-intensive sectors that have a high-risk of carbon leakage.

    The government confirmed that the UK CBAM will apply to the sectors in the left hand column:

    UK CBAM sectors  EU CBAM sectors
    • iron
    • steel
    • aluminium
    • cement
    • fertiliser
    • hydrogen
    • ceramics
    • glass
    • iron
    • steel
    • aluminium
    • cement
    • fertiliser
    • hydrogen
    • electricity

    Electricity, which is included in the EU CBAM, has been omitted from the list of sectors under the UK CBAM, at least for now. The ceramics and glass sectors are included in the UK CBAM, whereas they are not currently under the EU regime.

    The consultation response does not give further guidance on the specific products that the UK CBAM will apply to within each of the sectors. More information is expected to follow in 2024 in the next consultation.

    4. Which emissions will the UK CBAM apply to?

    The accompanying FAQs factsheet3  states the UK CBAM will be applied to:

    • Scope 1 emissions (direct emissions occurring from sources that are owned or controlled by an organisation producing the products)
    • Scope 2 emissions (indirect emissions arising out of an organisation's energy use generated from an external source)
    • Scope 3 emissions - select precursor product emissions embodied in imported products

    Although the consultation response discusses the use of default values where emissions data is unavailable, no decision has yet been taken on how and when default values may be used.

    5. How will the UK CBAM liability be calculated?

    The liability will be calculated by multiplying the amount of greenhouse gas emissions embodied in the imported goods by the prevailing UK CBAM price. The UK CBAM price is the gap between the carbon price applied in the country of origin (if any) and the carbon price that would have been applied had the goods been produced in the UK. This means UK CBAM liability will be reduced (or will not apply) where a carbon price has already been applied to the emissions associated with an imported product.

    The UK CBAM liability will be calculated using the effective price of carbon in the UK and country of origin. This will mean carbon pricing, for the purpose of the UK CBAM, will take into account free allowances allocated under the UK ETS and other support mechanisms. An outstanding question is whether imports from the EU will be subject to UK CBAM or not.

    6. Who will be responsible for paying the UK CBAM liability?

    The UK CBAM liability will sit with the importer of goods that are covered by the regime.

    7. How will UK CBAM interact with the UK ETS, in particular the allocation of free allowances?

    As explained in question 5 above, use of an effective carbon price under UK CBAM will result in a carbon price that is significantly lower than the market carbon price under the UK ETS.

    The FAQ factsheet states that the "UK CBAM will work cohesively with the UK ETS, including free allowances, to ensure imported products are subject to a carbon price comparable to that incurred by UK production, mitigating the risk of carbon leakage." However, how this will be achieved is not dealt with in the CBAM consultation response.

    Alongside this, the UK ETS Authority has, in its Free Allocation Review4, stated that it will consider all options for adjusting free allocation policy to reflect the reduced risk of carbon leakage once a CBAM is introduced. While not committing to a policy decision, the Free Allocation Review notes that 'one approach' would be to phase out free allocation gradually for sectors covered by a UK CBAM. This would follow the approach of the EU CBAM, however, any reduction in UK ETS free allocation would be a sensitive topic for major UK emitters, and would be subject to further policy development and consultation.

    8. Is the UK Government considering other measures to tackle carbon leakage?

    The consultation response also states that the government will work with industry to establish Voluntary Product Standards that will benchmark selected products based on their embodied emissions and enable manufacturers to distinguish their products as lower carbon, reach new markets and potentially attract a green premium for their goods. The government will also continue to explore the options for product labelling, and whether there is a role for Mandatory Product Standards (MPS) from the late 2020s. MPS would set upper limits on the embodied emissions of industrial products either produced in the UK or placed on its market.

    The government will continue to develop an emissions reporting framework to underpin new carbon leakage policies and will publish a technical consultation in 2024.

    9. What are the anticipated commercial implications of the UK CBAM?

    The explicit aim of the UK CBAM is to address carbon leakage and ensure that consumers pay the same price on carbon emissions embodied within CBAM goods regardless of the country of origin. Proponents of the UK CBAM hope this will ensure a level playing field between domestic producers and importers of CBAM goods, however, concerns have been raised that the aim of the UK CBAM could be undermined if, like the EU CBAM, processed or semi-finished goods are not within scope. It would therefore be prudent for organisations to carefully consider the impact of the UK and EU regimes on their value chains and pricing strategy, and follow further developments closely.

    As noted above, the primary liability under UK CBAM rests with the importer but an important question for importers is whether they can pass on their CBAM liabilities to their supply chain or customers. Aside from the bargaining strength of the respective parties, the extent to which this can be done will depend on contractual arrangements, in particular the scope of any clauses covering which party is responsible for any import taxes, levies and duties, and, where applicable, change in law clauses. The analysis may differ depending on whether an importer is seeking to pass on costs under an existing contract with a supplier, or with a customer.

    Additional considerations for in-scope companies include:

    • New contracts – what provisions should be included in new contracts for CBAM goods and sectors to allocate CBAM liabilities and manage dispute risk?
    • Practical compliance – complying with any registration requirements and understanding reporting requirements (when published). Parties may wish to address circumstances where import of goods is delayed by logistical issues – including challenges to assessment of CBAM liabilities by UK authorities, or lack of access to independent verifiers.
    • Data sharing – what information will be required to enable compliance at least cost? Is any of this data confidential and does the importer have the rights to process it? Could data sharing raise competition law concerns in certain contexts?
    • Default values – to what extent will default values encourage use of importers' own emission data? Should companies engage in the creation of default values?

    We would like to thank Hal Donovan for his contribution to this article.

     

    1. Addressing carbon leakage risk to support decarbonisation Summary of consultation responses and government response (Department for Energy Security and Net Zero and HM Treasury, 18 December 2023)
    2. New UK levy to level carbon pricing, (HM Treasury and The Rt Hon Jeremey Hunt MP, 19 December 2023)
    3. Factsheet: UK Carbon Border Adjustment Mechanism - GOV.UK (www.gov.uk).
    4. UK Emissions Trading Scheme: free allocation review - GOV.UK (www.gov.uk).

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