UK consults on proposed carbon border adjustment mechanism

The consultation (64-page / 1.26MB PDF), which runs until 13 June 2024, represents the first concrete step towards the introduction of a new ‘carbon border adjustment mechanism’ (CBAM) in the UK. The government had previously indicated its intention to introduce such a mechanism and for it to take effect from 1 January 2027.

The purpose of the CBAM is to tackle so-called ‘carbon leakage’, ensuring that goods imported from countries that apply either low or no carbon prices do not gain an unfair competitive advantage.

According to the UK government’s plans, the new regime would apply to ‘CBAM goods’ in certain sectors – aluminium, cement, ceramics, fertiliser, glass, hydrogen, iron and steel. Examples of goods proposed to fall within scope include aluminium bars, cement clinkers, various forms of ceramic bricks, roof tiles, and pipes, nitrates of potassium, glass wool, and railway tracks. Scrap aluminium, glass, iron or steel goods that are imported to the UK would not be in scope of the regime.

The government has proposed close alignment between the scope of the CBAM regime and the UK Emissions Trading Scheme (ETS), which is a system of allowances or permits to pollute, which are tradeable on a secondary market. In this regard, the government said that “only goods whose production would be within scope of the UK ETS if produced domestically, and which would be produced as a result of activities currently deemed at risk of carbon leakage within the UK ETS will be considered for potential inclusion within scope of the UK CBAM”.

Under the government’s plans, the point at which tax liability on goods would arise would be in one of two scenarios: if goods are subject to customs controls, the tax point would be the date on which the goods are released into free circulation; if there are no customs controls, it would be the date on which the CBAM goods first enter the UK.

A tax liability would arise in relation to CBAM goods imported into the UK even if they are released into free circulation in non-CBAM goods form after processing. In those circumstances, liability would be based on the CBAM good before it was processed.

The government has proposed a threshold under which businesses would not be required to either register or account for CBAM – where the total value of their CBAM goods passing a tax point falls below a minimum registration threshold of £10,000 over a rolling 12-month period. Businesses would be required to register for CBAM either from the date they expect to meet the threshold or from the date they meet it, whichever is earlier – and their tax liability would be considered to start as of that date.

Under the government’s plans, importers of CBAM goods would not necessarily be the business liable for the CBAM charge. This is because it has proposed that the liable person be either: the person responsible for the goods when they are released into free circulation, where customs controls are in place; or the person on whose behalf the goods are moved to the UK, where there are no customs controls.

Liable persons would be obliged to file a CBAM return and pay the relevant CBAM charge at the end of each accounting period. There would be an obligation to file a CBAM return even if the CBAM charge is nil. The first accounting period for would run for 12 months and cover imports of CBAM goods from 1 January to 31 December 2027, under the plans, but from 2028 liable persons would be expected to file CBAM returns and make relevant payments quarterly.

To inform how liability is determined, liable persons would be expected to submit information alongside their CBAM returns.

Indirect tax specialist Bryn Reynolds said: “Concerns may be raised that HMRC have, at the consultation stage, already noted that registrations in the first year are likely to be delayed whilst HMRC builds a new CBAM online service. Tax teams need to be alerting their finance business partners about this potentially significant additional charge as supply contracts for major infrastructure projects covering the CBAM period are already being signed.”

In this regard, businesses would have the option of providing information about the emissions associated with their CBAM goods, as verified by an independent verification body, or apply their default government-set emissions values which are to be based on a global weighted average of UK imports for the relevant sector.

This information would then be used to determine what CBAM charge businesses owe.

In this respect, each good would have an ‘emissions value’ attributed to it, which would be determined by reference to the total emissions associated with each good – both direct and indirect emissions – and the relevant CBAM charge rate that would apply to each of those goods: the government has proposed seven different rates for each of the different sectors within scope of the regime.

From there, the figure would be multiplied by the ‘UK carbon price’ attributed to those goods, which would be referenced against the price as set in the UK ETS, before the ‘overseas carbon price’ is deducted from the figure to determine the actual charge payable.

All in all, the government consultation includes 41 policy questions that invite stakeholder feedback on issues such as the commodities to be included within the scope of the regime, the definitions of direct and indirect emissions, the verification of emissions, the minimum thresholds, and enforcement powers.

If the government’s proposals come to fruition, the UK would not be the first jurisdiction to have introduced a CBAM. A CBAM regime has already been in transitional operation in the EU since 1 October 2023, and will take effect in its definitive form in January 2026. At the same time, the EU regime is to operate differently as it would involve what the UK government described as “the purchase and surrender of ‘CBAM certificates’ at the current ETS market price” – the EU operates its own ETS. The government said, however, that replicating the EU approach in the UK would “add complexity to the UK CBAM” because it would entail “additional new administrative steps for UK importers and the government through the sale and purchase of certificates”.

Trade and subsidy control expert Dr Totis Kotsonis of Pinsent Masons said: “The UK government’s decision to seek to implement a UK CBAM will be welcomed by domestic producers who potentially face unfair competition from cheaper imports from countries that do not have in place equally rigorous carbon mitigation measures. In fact, concerns over unfair foreign competition were magnified further as a result of the introduction of the EU CBAM. This has given rise to the risk of cheaper products that would have otherwise found their way into the EU, being diverted into the UK market.”

“At the same time”, he added, “it is unclear to what extent a UK CBAM would mitigate the risk of UK products being subject to EU CBAM charges when entering the EU internal market given that the UK ETS market price tends to be lower than that of the EU ETS.”

Kotsonis also referred to a recent study which has highlighted the energy industry’s concerns over the EU CBAM’s impact on electricity generation in the UK. According to these, the introduction of the EU CBAM is likely to lead to a significant increase in the price of electricity traded between the UK and the EU and, amongst other things, discourage the development of interconnectors between the two jurisdictions.

According to Kotsonis, “this type of risk was in fact predictable at the time of Brexit, being as it is, a direct consequence of the fact that, Great Britain – the Northern Ireland’s position being somewhat different – is no longer part of the EU market for energy and the UK ETS price has diverged from that under the EU ETS.”

Kotsonis added: “Ultimately, unless the UK ETS and CBAM systems are fully aligned with their EU equivalents, the UK CBAM will help protect the UK market from unfair foreign competition, but it is unlikely to be equally effective in protecting the position of UK producers exporting goods that are subject to the EU CBAM. In truth, affected businesses must recognise that, for better or worse, the question of full alignment is politically sensitive and, as such, unlikely to happen any time soon.”