The Climate Change Act 2008

How to reduce or offset our 'carbon footprint' and produce less waste are popular topics in the media at the moment. This may be, in part, due to new evidence of changes to climate patterns but there are also international factors at play. 2009 is considered by the United Nations to be a crucial year in the international effort to address climate change. There are a series of meetings of the UN Framework Convention on Climate Change throughout the year. 2009 will conclude with the United Nations Climate Change Conference in Copenhagen in December, where it is hoped that an agreement will be reached on controlling emissions from 2013 '“ effectively a new and more far-reaching 'Kyoto'.

The Kyoto protocol was an attempt to set a series of global targets for the reduction of carbon dioxide and other greenhouse gas emissions and was, to many people, a significant step when it was first negotiated back in 1997. It has subsequently operated as an umbrella for national and regional schemes already in place and those introduced subsequently, for example, the EU Emissions Trading Scheme, which covers the energy and industrial sectors.

Over recent years individual countries have sought to implement their own specific initiatives to try and reduce greenhouse gas emissions, with mixed success. The UK's most recent response has been The Climate Change Act 2008, which became law on 26 November 2008 and, since 26 January 2009, is almost entirely in force. The Act is essentially a framework with the detail provided by subsequent statutory instruments. This article therefore explores the framework set out in the Act itself but also the regulations issued pursuant to the Act to date including a review of the proposed CRC Energy Efficiency Scheme.

Part One: targets and budgets

The first section of the Climate Change Act contains the bold statement that it is the duty of the secretary of state to achieve an 80 per cent reduction in greenhouse gas levels below 1990 levels by 2050. (1990 is the baseline year for measurements of Carbon Dioxide. S.25 of the Act allows for other greenhouse gases to use different baseline years.) While a whole debate could be conducted about the enforceability of such a provision, its significance is that it commits the UK in law to a visible long-term framework to tackle the consequences of climate change, including a national target that exceeds any previously included in voluntary commitments. The UK is the first country to ratify a law with such a long range and significant carbon reduction target. Not only does this aim to give greater certainty for investment in alternative technologies and sustainability but it may also help to provide the UK with a platform in leading policy in treaty negotiations, such as that in Copenhagen later this year.

There is scope for the secretary of state to amend the 80 per cent target for 2050, or to change the original baseline year from 1990 (section 2(1) of the Climate Change Act 2008). However, the right can only be exercised in specific circumstances set out in the Act. These circumstances cover significant developments in either scientific knowledge about climate change or European or international law/policy. The right may also be invoked if an order is made to include further greenhouse gases or to include international aviation or shipping in the figures. In making a decision to change the baseline, the secretary of state must take into account the advice of the Committee on Climate Change (see Part 2 below) or the relevant national authorities (these being the Scottish and Welsh ministers for matters governed by the Scottish Parliament and National Assembly for Wales respectively, and the secretary of state in all other cases) or publish a statement giving its reasons for failing to do so.

The rest of Part 1 of the Act sets out how the 80 per cent reduction is to be achieved in practice. In order to measure the reduction in greenhouse gas levels stated, the Act introduces the concept of 'carbon units'. More detail is contained in the Carbon Accounting Regulations 2009 (articles 2, 3 and 4 SI 2009/1257), which specify that a carbon unit has a value of one tonne of carbon dioxide equivalent meaning that the subtraction of a carbon unit equates to a reduction or removal of the equivalent of one tonne of greenhouse gases from the atmosphere. Originally the Act concentrated on carbon dioxide specifically, but subsequent statutory regulations have removed this restriction (article 2(3) SI 2009/1258) so that compliance is calculated by reference to all targeted greenhouse gases and not just carbon dioxide. The figure reached once any carbon units have been added or subtracted will be the UK's 'net carbon account' for any given period. The lower the net UK carbon account is, the lower the notional net emissions for the period and therefore the better the result. The regulations make the system of carbon accounting compatible with the rules under Kyoto and the EU Emissions Trading Scheme.

A common thread throughout Part 1 of the Act is how to keep a focus on the target of 80 per cent and to chip away at reaching that target. The Secretary of State has to set budgets for its carbon account taking into account a host of requirements '“ some relating to science and technology but also, like any policy, social and fiscal circumstances. The first three budgets are five yearly and these were set by the Carbon Budgets Order 2009. (The carbon budgets set are as follows: 2008-2012 '“ 3,018,000,000 tonnes; 2013-2017 '“ 2,782,000,000 tonnes; and 2018-2022 '“ 2,544,000,000 tonnes of carbon dioxide equivalent.) These aim to achieve a reduction of 34 per cent lower emissions than the 1990 baseline by 2020.

The Act deliberately seeks to limit the circumstances in which budget figures can be adapted to suit overruns. Budgetary periods can be altered where this is necessary to keep the periods in line with European or international agreements and the Act envisages that the Secretary of State will report annually to Parliament on emissions and proposals to achieve the budget set. Furthermore although amounts can be carried forward or back, if the UK carbon account exceeds the budget, a statement before Parliament will be required setting out proposals to compensate future periods.

Part Two: Committee on Climate Change

Part 2 of the Act created a new independent body '“ the Committee on Climate Change. Although part of the Act, the committee was actually set up prior to the Act's commencement and it advised on an increase from the 60 per cent reduction in greenhouse gases discussed at the time of the Climate Change Bill to the final 80 per cent target for 2050 implemented in section 1 of the Act.

Details of the format of the committee are set out in schedule 1 of the Act. The committee should consist of five to eight members at any one time appointed by national authorities and a person appointed by those to chair the occasion. The criteria for appointment covers a broad range of those with knowledge that might assist the process '“ from those with specific knowledge of the science of climate change or energy production to those from a background of financial investment and economic analysis. The Act contains provisions for employees to be appointed and for sub-committees to be formed '“ for example, there is already an Adaptation Sub-Committee reporting on the impact of climate change and progress.

Going forward, it is the role of the committee to advise the secretary of state on the level of the carbon budget for each period, how to meet that budget (whether by reducing emissions or using carbon units) and to what extent that could be met by trading schemes. It will also be responsible for advising on international shipping and aviation implications and on advising national authorities in response to directions issued to the committee.

It is worth noting that, although playing a rather different role to the independent Committee on Climate Change, the Department of Energy and Climate Change (DECC) was created in October 2008 to bring together the challenges of climate change and energy supply in the political sphere in one place. It draws on groups previously established to deal with climate change from both the Department for Environment, Food and Rural Affairs (DEFRA) and the Energy Group from the Department for Business, Innovation and Skills (BIS).

Part Three: trading schemes '“ the carbon reduction commitment

While Parts 1 and 2 of the Act concentrate on the overall aims and procedure for reducing carbon emissions, Part 3 of the Act is the section most likely to have an immediate impact on businesses and organisations and those that advise them. It deals with the introduction of a mandatory scheme for trading greenhouse gas emissions to be called the Carbon Reduction Commitment Energy Efficiency Scheme (CRC). Unlike the EU Emissions Trading Scheme (EU ETS), CRC targets persons and organisations rather than installations or processes.

The detail of the CRC Order ('the order') is still in draft with the most recent consultation ending in June 2009. At the time of preparing this article, the DECC had just issued its response to that consultation and confirmed a commencement date for CRC of 1 April 2010. The intention is that the final regulations will be put before Parliament towards the end of the year. The following review is therefore based on the most recent draft of the order and the DECC's response to consultation in October 2009 to the draft.

a) Organisations covered

CRC does not affect energy-intensive organisations, whose emissions are covered by other climate change agreements '“ for example, the EU Emissions Trading Scheme. It will, however, affect large businesses in the public and private sector that previously may not have had to address their level of energy consumption. In the first stage of CRC, an organisation will be considered for qualification if it is the party to an energy supply contract. It is currently proposed that participants will be those businesses or organisations that annually use more than 6,000 MWh of electricity from half-hourly metered electricity supplies. Essentially this catches those organisations that have an annual electricity bill of £500,000 or over. Initial qualification will be based on electricity consumption in 2008 but once the threshold is met, all energy use will be covered by the scheme '“ not just electricity usage. CRC is projected to apply in full to 5,000 public and private sector organisations initially and it is estimated that up to 20,000 organisations will be affected by having to provide information about their energy use ('Government Response to the Consultation on the Draft Order to Implement the Carbon Reduction Commitment', 7 October 2009). Government departments and the Scottish and Welsh administrators are also required to participate regardless of the level of their energy consumption.

Some participants will be grouped together as one participant for the purposes of CRC '“ either because they are part of a group of companies or part of a franchising arrangement. Where a group of companies is affected, the 'primary member' will be the parent company or franchisor unless the group chooses to nominate another group member. The CRC order will, however, make allowance for large subsidiaries that would have qualified in their own right for CRC ('significant group undertakings') to participate separately from their organisational group. It will also cover groups of companies whose parent company is based overseas. The final order will also deal with major structural events such as takeovers, mergers and demergers. The aim in each case is to ensure that all subsidiaries take part while they are part of the group and that principal subsidiaries continue to remain part of CRC even if they cease to be caught as a subsidiary. Franchisees are given a duty of providing the responsible person with reasonable assistance.

In practice, reference to CRC qualification attaching to the name of a business on an energy contract raises some interesting questions. For example, the carbon footprint of buildings is considered to be the source of over 50 per cent of greenhouse gas emissions in the UK (Information from the Department for Communities and Local Government quoted in 'The Carbon Reduction Commitment '“ A Guide for Landlords and Tenants') and buildings will therefore represent a major source of the 6,000 MWh threshold. For a multi-let building, however, the counterparty to each energy supply contract may well not be the actual occupier. Landlords often organise the electricity supply for a multi-let building even if the final energy costs are paid by the tenant. Where the tenant pays electricity directly for its own space, it may be that the energy used for the common parts would count towards the landlord's 6,000 MWh threshold. Where, however, the landlord is the counterparty on an energy supply contract for space sub-let to tenants, the responsibility for accounting for the energy use for that space will rest with the landlord even if the actual energy costs are passed on to a tenant by sub-metering or as a proportion of floor area. In recognition of the issues raised, the government's response to the latest consultation states that the final regulations will include a provision requiring a tenant to cooperate with its landlord for the purpose of CRC compliance.

b) The procedure

CRC is divided into phases and, within each of these, into compliance years. The first 'introductory phase' is 1 April 2010 '“ 31 March 2013. Subsequent phases will last seven years. Rather confusingly, the phases overlap so that the second begins a year after the first on 1 April 2011, and the third on 1 April 2016. Participants, however, will only be required to cancel/offset allowances relating to one phase at a time and will only be responsible for reporting on the earlier phase for which they qualify. Each compliance year will run from 1 April until the following 31 March.

In each phase, there will be a qualification period where organisations have to assess whether CRC applies to them at that point. In the introductory phases, this period was January to December 2008 and the assessment will therefore be based on information provided by electricity and gas distributors to customers and the administrator of the scheme. There will then be a period for registration with the administrator. It is currently proposed that qualifying packs for the first phase will be sent to all those organisations affected towards the end of 2009 and, for the initial period, registration is scheduled to run from April until September 2010.

If an organisation operates on half-hourly electricity supplies it will have to provide the administrator with information on its electricity consumption even if it does not qualify as a 'participant'. For those recording under 3,000 MWh this should just be a tick on an online form, but more information will be required from those organisations falling within the 3,000-6,000 MWh group. This 'information gathering' requirement for non-qualifying participants only became clear at a later stage in the consultation process for CRC and suggests that the government is keen to extend the scope of the legislation in future to a lower threshold than that currently used.

The first year of each phase will be a 'footprint' year during which organisations will calculate their total emissions '“ in the first phase this will be April 2010 until March 2011. All participants must then produce a 'footprint report' to the scheme administrator by the end of July following the first year of a phase '“ for the first year; this will mean reporting in July 2011. Directors or those 'with management control' will be required to sign off on energy use reports and face criminal penalties if information is provided that is knowingly or recklessly false. There are clear disincentives for those participants that fail to measure their energy use accurately. It has been made clear in the government's recent response that figures during a compliance year that rely on estimates rather than actual readings for gas and electricity consumption will be subject to an automatic 10 per cent uplift; although some approximation will be accepted for other fuel supplies.

At the start of each compliance year a participant must purchase allowances with one allowance equivalent to each tonne of CO2 or equivalent that it anticipates using during that year. (The first compliance year will be a reporting-only year and April 2011 will mark the first sale of allowances to cover the year 2011/2012. ) In the introductory phase (2010 to 2013) the allowances will be sold at a fixed annual price of £12 per tonne of CO2 and the supply will be unlimited. From 2013 the government will introduce a cap on the number of allowances available. The aim is that the introductory phase should enable businesses to learn how to manage their energy usage and make accurate forecasts of allowances required before the scheme becomes more restrictive.

During the introductory phase, organisations will buy credits direct from the government but in later phases allowances will be sold by an auction procedure and may be banked for use in future years (although the details of this have yet to be finalised). It will also be possible to trade allowances with other participants in the scheme or third parties. This has led to speculation that it will allow for a new type of trader in carbon allowances and is likely to lift the price well above the current floor of £12 per tonne. In case the price escalates too far, a 'safety valve' mechanism has been designed under which organisations will be able to apply to buy allowances at a price in line with the EU Emissions Trading Scheme, subject to a £12/tCO2 minimum. The challenge in practice for businesses affected is how to estimate accurately the level of allowances that might be required and allow for the possible projected costs of those.

At the end of each compliance year a participant will have to surrender sufficient allowances to match the level of its emissions from its energy consumption for that year of the phase and documented in the annual report '“ effectively 'offsetting' the amount used. The cancellation should take place by the end of July following the end of a phase but, in any event, the participant must be able to demonstrate that it holds sufficient allowances in its compliance account.

c) Incentives, penalties and the league table

The order contains a number of civil and, in specific cases, criminal penalties in relation to registration/information disclosure, reporting and record keeping and surrendering sufficient allowances. The level of initial penalty for a breach will be relatively low (£5,000 in many cases) but the penalties for e.g. failure to register or provide an annual report rise by £500 a day and are therefore increasingly financially stringent. It is anticipated that up to 20 per cent of organisations are likely to be audited each year to ensure compliance.

Although not specifically drafted as such, the league table is one of the concepts introduced in the draft order that may prove to be more of an immediate incentive/penalty for businesses keen to protect their reputation. It is proposed that this will be published following the end of each compliance year and will be effectively a chart of all participants and their respective 'scores'.

The ranking in the table will be based on an absolute reduction of emissions achieved, an early action standard (which will measure an organisation's commitment to reduce emissions) and, finally, a measure of change in emissions relative to turnover. The weighting will vary as the phases progress. In the first year, the only measure that will count for league table purposes will be the early action metric recording action taken to reduce carbon emissions prior to the start of the scheme (although only action that can be identified in accordance with the Carbon Trust standard or equivalent accreditations). By years two and three, the weighting for this element will be reduced to 40 per cent and then 20 per cent respectively and ultimately fall away completely. In future years the greatest weighting will be given to the absolute reduction figure within the overall score.

Carbon allowances are supposed to be tax neutral with the idea being that the money raised from the government sale or auction of allowances will be 'recycled' back to the businesses and organisations participating. The basis of that recycling payment, however, is not linked to the costs invested by an organisation into the initial allowances. Instead it will be determined by the amount of money collected and available for recycling, the participant's emissions for that year and a bonus or penalty awarded to the participant due to league table ranking. The proposal is that the bonus weighting will initially be set so that those at top of the league table receive back the relevant proportion of the amount to be returned, plus 10 per cent, and those at the bottom at the table receiving back the proportion due, less 10 per cent. This is already scheduled, however to rise to plus /minus 20 per cent in the second year and then incrementally to plus/minus 50 per cent in the fifth year.

d) Issues

While the CRC order remains in draft, it is difficult to say with any certainty how exactly businesses are likely be affected. On the basis of the current draft, however, there appear to be a number of challenges facing businesses and their legal representatives.

At present the scheme is only intended to affect the largest businesses and organisations. Many of those have voluntarily had their own energy reduction schemes in place and may already have the resources in place to capture the data required for CRC. For others, sustainability and carbon reduction may take on a new significance and, in order to meet the requirements set out in the draft order, they may face challenges in collating the data required and having the capability to process that information into the type of reports required. Participants will also have to plan ahead to budget for the allowances that will be required and to decide on how to achieve a consistently good ranking in the league table in light of the different weightings given to initiatives in different years.

For legal advisers, CRC is likely to cross practice area boundaries. For example, where a significant group undertaking qualifies for CRC in its own right, its sale has to be notified to the administrators of the scheme (The Environment Agency in England/Wales) and apportionments will have to be made of its energy usage based on its ownership at the start and end of a compliance year. This is likely to have implications for those involved in corporate acquisitions and mergers.

For property advisors, it remains to be seen quite how CRC allowances and recycling payments (which are intended to follow organisations rather than the buildings that they occupy) will work in the landlord and tenant sphere. Will landlords be able to pass on the cost of allowances and, if they do, how will these be split between tenants? Will the tenants also be entitled to a proportion of any recycling payments available? It may even trigger new momentum for landlords to introduce energy saving provisions into leases '“ particularly where landlords are required to register tenants' energy use as part of their own figures for CRC allowance purposes. For those interested in some of the more significant issues facing the property industry and possible approaches to dealing with them, a helpful guide has been produced by the British Property Federation ('The Carbon Reduction Commitment '“ A Guide for Landlords and Tenants' (British Property Federation '“ June 2009)).

Parts Four and Five: Impact of and adaptation to climate change

Part 4 of the Act is essentially procedural and designed to support reporting on targets. It includes, among other matters, a duty on the secretary of state to report to Parliament with an assessment of the risks of climate change every five years, with the first to be presented by the end of January 2012 based on advice from the Committee on Climate Change. The time periods can be extended but only with an explanation of the reason for any delay.

The final section of the Act contains provisions dealing with the future reporting of emissions and related environmental issues such as waste, recycling and charges for single use carrier bags. Section 5 and schedule 5 of the Act contain provisions to amend the Environmental Protection Act 1990 to allow for schemes to produce less domestic waste and to recycle more of what is produced in return for financial incentives. The Act also allows for pilot schemes to be introduced and their success measured. Although the Act allows for charges to be levied for domestic waste (where there is already a good recycling service or rebates offered on council tax), the Act does make it clear that the aggregate amount of rebates/charges should be revenue neutral.

Conclusion

The Climate Change Act 2008 is as much an international statement as it is a domestic statute within the UK. However, while the UK's commitment and determination to reduce greenhouse gases is clear, what is less clear is the detail of how that will actually translate in practice to businesses and organisations. This might be addressed in further regulations issued in the next few months '“ for example, the final regulations for the CRC Energy Efficiency Scheme '“ but it is likely that some grey areas will remain and it will up to those businesses affected to find a common way forward.