The transition from the European to UK Emissions Trading Scheme

What was the EU ETS?

Prior to 1 January 2021, the UK participated in the EU Emissions Trading System (EU ETS). The EU ETS was set up in 2005 and applies to carbon dioxide, nitrous oxide and perfluorocarbons. It operates in all EU countries and was the world’s first emissions trading system. The EU ETS generally applies to energy intensive industries, the power generation sector and aviation.The scheme operates on a ‘cap and trade’ principle, whereby a cap is set on the total amount of greenhouse gases that can be emitted by an installation. This cap is reduced over time so that the total amount of permitted emissions fall. Within the cap, companies receive or are able to buy emission allowances which can be traded with one another as required.In each year a company must have sufficient allowances to cover its emissions, otherwise significant fines can be imposed. If the company reduces its emissions and therefore has surplus allowances it may keep them to cover future emissions or sell them on to another company which is short of allowances. The total number of allowances worldwide is capped.In particularly energy-intensive industries where emissions are unavoidable and hard to reduce, installations may receive a free allocation of allowances. Depending on the nature of the installation, the proportion of free allowances will usually decrease gradually year on year to encourage emissions reduction.

What is the new UK ETS?

 Prior to the release of the Energy White Paper, the Government had advised that from 1 January 2021, depending on the outcome of the Brexit negotiations, the UK would either implement its own ETS or, if there was a no deal, introduce a carbon emissions tax. Upon release of the Energy White Paper it became clear that the UK Government would be implementing a standalone UK ETS which would largely mirror the EU ETS. So, as signposted, the UK ETS is a system which is distinctly similar to the EU ETS. It operates using the same ‘cap and trade’ approach and covers the same participant sectors. As of 1 January 2021, the UK ETS replaced the EU ETS in the UK. 

Who is the responsible authority? 

The regulators for the UK ETS are:

  • For installations based in England: the Environment Agency;
  • For installations based in Northern Ireland: the Chief Inspector;
  • For installations based in Scotland: SEPA; and
  • For installations based in Wales: NRW.

 How can I participate in the UK ETS?

Operators of UK-based stationary installations which participated in the EU ETS should already have received their greenhouse gas (GHG) emissions permit via the Emissions Trading System Workflow Automation Program (ESWAP) system.For ‘new entrants’ the Government will be issuing detailed guidance shortly. However, The Greenhouse Gas Emissions Trading Scheme Order 2020 (the legislation that governs the UK ETS) prescribes the process for an application and the documents that must be submitted. 

What about the allocation of free allowances? 

The guidance published by BEIS on 17 December 2020 makes it clear that, in relation to free allocation of allowances to qualifying operators of installations, the UK’s initial approach will be similar to the EU’s proposed approach for Phase IV of the EU ETS and that the benchmarks used to calculate free allocations and entitlements will be the same as for Phase IV.For an existing operator, the initial free allocation for the 2021-2025 allocation period will be calculated based on the activity of an installation between 1 January 2014 and 1 January 2019. However, installations which receive a free allocation are required to provide annual activity reports between 2021 and 2030. The first such report is due on 30 June 2021 and in each subsequent year reports will be due on 31 March. If the activity changes significantly (by 15% or more) in any year, the regulator has the power to adjust the annual number of allowances.For new entrants the process is different. The free allocation calculation will depend on whether an installation is operational and for how long it has been operational. However, generally speaking, for the first and second year of operation, free allowance allocation is based on the activity level of the installation in each year.

 Auctioning and market operation

UK ETS participants will be able to trade their emissions allowances on a secondary market via the ICE Futures Europe auction platform until December 2022. The Government has advised that the auction calendar will be published in due course.The UK ETS will have a £15 Auction Reserve Price – essentially a minimum price for which allowances can be sold at auctions. Bids below this price will not be successful. There will also be a Cost Containment Mechanism – a process for the Government to address price spikes in the market. 

Aircraft operators, small emitters, ultra-small emitters and hospitals

These operators are exceptions to the process as set out above:

  • The Government has issued detailed guidance for aircraft operators, which can be found here.
  • The Government has highlighted that there will be simplified provisions for small emitting installations and hospitals with emissions lower than 25,000t CO2e per annum and a net-rated thermal capacity below 35MW. These installations will be subject to emissions targets instead of trading allowances. The Government has indicated that further information on installations in these categories will be provided shortly.

Authors: Clare King and Reece BallettEnergy, Waste and Sustainability 

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The content of this page is a summary of the law in force at the date of publication and is not exhaustive, nor does it contain definitive advice. Specialist legal advice should be sought in relation to any queries that may arise.

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