Selina Lee-AndersenJoanna Rosengarten

As we reported earlier, the Ontario government passed the final version of the Climate Change Mitigation and Low-carbon Economy Act, 2016 (the Act) on May 18, 2016. The Act received Royal Assent later that same day and is now in force. On May 19th, the government posted the final version of The Cap and Trade Program Regulation (O. Reg. 144/16) (the Regulation). As discussed in an earlier post, the Regulation set out details of the cap-and-trade program proposed for Ontario, including caps, compliance periods, rules related to registration and participation, details regarding who is a mandatory participant and who can participate as a voluntary or market participant, and information on the allocation of allowances. Although the substance of the Regulation has not changed since it was in its draft form, the final version sets out additional details related to the attribution of allowances and circumstances when the Director will determine amounts, registration requirements, and participation in auctions.

The Ministry of the Environment and Climate Change (MOECC) has noted that the following aspects of the cap-and-trade program were changed following consideration of comments during the most recent consultation period:

  • Treatment of the electricity component of cogeneration: Facilities that generate electricity and steam via cogeneration for use on-site will receive allowances free of charge for emissions attributable to the electricity generation and the steam generation, to remove disincentives for cogeneration and simplify implementation.
  • Allocation changes for some industries subject to energy use benchmarks: To encourage energy efficiency improvements, some industries and facilities will be subject to historical or product-output benchmarks instead of energy-use based allocations.
  • Biomass use: A factor was added to the allowance allocation formula that would lower the cap adjustment factor in proportion to any facility’s biomass use, so that facilities using more biomass would see more moderate rate of decline.
  • Reporting of biomass: Biomass continues to be treated as carbon neutral however the Quantification, Verification and Reporting Regulation and Guideline do not include the changes that were proposed on measurement requirements and reporting of biomass at this time. The Ministry will continue discussions with partner jurisdictions and stakeholders on this subject.

The Regulation and incorporated Methodology for the Distribution of Ontario Emission Allowances Free of Charge will come into force on July 1, 2016. MOECC has announced that it will be amending the Regulation in 2016 to include provisions on early reduction credits (outlining eligibility requirements and limits), offsets (describing what projects are eligible for use in the cap-and-trade program), the management of allowances when facilities shut down, go bankrupt, or change ownership, and the treatment of indirect steam emissions. MOECC also stated that it will be proposing two additional regulations under the Act in 2016 on administrative monetary penalties, and First Nations impact mitigation from the cap-and-trade program (and in particular, exempting certain fuels delivered to reserves for use by First Nations from the cap-and-trade program).

On the same day the final Regulation was released, a new Quantification, Reporting and Verification of Greenhouse Gas Emission Regulation (O. Reg. 143/16) (the Reporting Regulation) was also released. The Reporting Regulation and incorporated Guideline will take effect January 1, 2017 and will apply to activities by persons on and after that date. The current Greenhouse Gas Emissions Reporting Regulation (O. Reg. 452/09) will be revoked after all reporting under it is complete.

Set out below is an overview of the key features of Ontario’s cap-and-trade program, based on the Act, the final Regulation and Reporting Regulation.

Ontario – Final Cap & Trade Program Details – Overview of Key Features 

Issue Details and Commentary
Status of Regulations
Overview of Cap-and-Trade Regulation
Overview of Reporting Regulation

 

 

Legal Authority

 

 

 

  • Both the Regulation and the Reporting Regulation are authorized by the Climate Change Mitigation and Low-carbon Economy Act (Bill 172), which was passed by the legislature on May 18, 2016.
  • Bill 172 sets out provisions relating to two main areas: (1) emissions reduction targets and action plans, and (2) cap-and-trade program and use of proceeds.
Start Date and Compliance Periods

 

  • The cap-and-trade program will take effect as of January 1, 2017 with the first compliance period ending December 31, 2020. Thereafter, compliance periods will last three years (i.e. starting January 1, 2021 until December 31, 2023, and so on).
Regulation Coverage
Threshold of Coverage
  • Sources that emit ≥25,000 tonnes of CO2e/year are subject to the cap-and-trade program.
Voluntary and Market Participants

 

  • In addition to mandatory participants, the Regulation contains provisions for voluntary participants and market participants.
  • A facility with annual emissions of between 10,000 and 25,000 tonnes that is obliged to report emissions under the Reporting Regulation may opt-in to the cap-and-trade program as a voluntary participant. This approach allows companies with smaller emissions profiles to participate on the same basis as larger emitters in the same sector, including access to free allocation of allowances.
  • A person who is not an employee of a mandatory or voluntary participant in the cap-and-trade program may apply to register as a market participant.
GHGs Covered

 

 

The following greenhouse gases are covered by the program:

  • carbon dioxide;
  • methane;
  • nitrous oxide;
  • hydrofluorocarbons;
  • perfluorocarbons;
  • sulphur hexafluoride;
  • nitrogen trifluoride;

and such other contaminants as may be prescribed as a greenhouse gas by the regulations.

Sectors Covered
  • All activities set out in Table 2 of the Reporting Regulation that are engaged in at a single facility (i.e. the large industrial emitters).
  • Electricity importation.
  • Natural gas distribution.
  • Petroleum product supply.

The cap-and-trade program will cover approximately 82% of the Ontario’s total GHG emissions.

Point of Regulation

 

  • Industrial and institutional sources with annual GHG emissions ≥25,000 tonnes: at the point of emission (i.e. at the facility).
  • Domestic electricity generation: at the fuel distributor level.
  • Electricity imports: at the point the electricity enters the province (first jurisdictional deliverer).
  • Transportation fuels (including fuel oil and propane): at the distribution level where they are first placed into the market; imports and domestics covered at volumes of 200 litres or more and that are delivered to an Ontario consumer.
  • Distribution of natural gas: for distributors of natural gas that, in aggregate, is associated with annual GHG emissions ≥25,000 tonnes, the point of regulation would be at the point the gas is transferred from pipeline into the distribution network for local customers.
Allocation of Allowances
Creation of Emission Allowances

 

  • Section 54 of the Regulation provides that on or before January 1, 2017, the Minister shall create the following emission allowances:
    • 142,332,000 Ontario emission allowances for 2017.
    • 136,440,000 Ontario emission allowances for 2018.
    • 130,556,000 Ontario emission allowances for 2019.
    • 124,668,000 Ontario emission allowances for 2020.
Overview of Methodology for Distribution of Free Allowances

 

  • The Methodology for the Distribution of Ontario Emission Allowances Free of Charge (the Methodology) is incorporated by reference into the Regulation and will come into effect on July 1, 2016.
  • Application eligibility requirements for free allowances is set out in section 85 of the Regulation.
  • The applicant is required to collect and quantify the information that is required in respect of an application under s. 86 of the Regulation, using methods that are consistent with the Guideline (under the Reporting Regulation) and the requirements about those methods in the Reporting Regulation, where the information is not otherwise required to be reported in a 2015 EPA Report, a 2016 EPA Report or a report under the Reporting Regulation (as such terms are defined in the Regulation). The application form that will be available from the Ministry of Environment and Climate Change (MOECC) will provide direction to potential eligible applicants in respect of the methods in the document.
  • According to the MOECC, the following aspects of the cap-and-trade program were changed following stakeholder consultations:
    • Treatment of the electricity component of cogeneration: Facilities that generate electricity and steam via cogeneration for use on-site will receive allowances free of charge for emissions attributable to the electricity generation and the steam generation, to remove disincentives for cogeneration and simplify implementation.
    • Allocation changes for some industries subject to energy use benchmarks: To encourage energy efficiency improvements, some industries and facilities will be subject to historical or product-output benchmarks instead of energy-use based allocations.
    • Biomass use: A factor was added to the allowance allocation formula that would lower the cap adjustment factor in proportion to any facility’s biomass use, so that facilities using more biomass would see more moderate rate of decline.
Distribution Method

 

 

 

  • Emitters covered under the program must hold an allowance for every tonne of greenhouse gas emissions released.
  • As the cap declines each year, emitters will need to hold a sufficient number of allowances to cover their annual emissions. To comply, emitters can reduce their emissions or purchase allowances in the carbon market.
  • Allowances will be distributed through auctions and free-of-charge allocation to industry.
  • Emissions attributable to electricity generation would not be eligible for free allocation of allowances, but emissions due to intensive production of a trade exposed good will be eligible.
  • Free allocation amounts will decline over time. The timing for the decline will be determined before the end of the first compliance period as part of a program review. The proportion of free allowances will decline as other jurisdictions adopt carbon policies, Ontario entities transition to the carbon price, and border carbon adjustments are introduced.
  • The remaining allowances (i.e. those not distributed free-of-charge) will be sold at auction.
Allocation Methodology

 

  • Generally, facility allocations will be determined primarily by three factors and calculated based on the equations set out in the Regulation. The three factors include the following:
    • Assistance Factor (up to 100%); certain emissions intensive and trade exposed industries will receive a higher assistance factor.
    • Base amount for facility, determined according to product-output benchmarks (based on allowances per unit of output), energy use (based on allowances per GJ of energy used) or historical emissions.
    • Cap Adjustment Factor (reflects annual reduction in the cap)
  • The Methodology sets out five methods that will be used by MOECC to determine the number of Ontario emission allowances that will be distributed free of charge to eligible capped participants:
    • Method A: Product Output Benchmark Method – examples of sectors/facilities eligible for allocation based on product-output benchmarks include: iron and steel making; petroleum refining; grey cement manufacturing; hydrogen manufacturing; and beer manufacturing.
    • Method B: Energy Use Based Method – eligibility requirements under this category are based on exclusions set out the Appendix to the Regulation; facilities that use energy in certain processes, operations or activities are not eligible for this type of allocation.
    • Method C: History Based Method – examples of sectors/facilities eligible for allocation based on historical emissions include: white cement manufacturing; glass manufacturing; ammonia manufacturing; nitric acid manufacturing; carbon black manufacturing; ethylene manufacturing; lubricant manufacturing; styrene manufacturing; magnesium production; high calcium lime production; dolomite lime production; mining, base metal smelting, refining; brick making; and mineral wool insulation manufacturing.
    • Method D: Direct Method – direct allocations will be made to certain participants (as set out in the Methodology) including: Carmeuse Lime Canada; Terra International (Canada) Inc.; University of Toronto; University of Western Ontario; University of Guelph; York University; London Health Sciences Centre; Hamilton Health Sciences Corporation; Queen’s University; Emerald Energy From Waste Inc; and Clean Harbors Canada Inc.; and
    • Method E: Indirect Useful Thermal Energy Method – eligible capped participants will receive free allowances in respect of useful thermal energy that is used at a facility but generated at another facility (i.e. indirect useful thermal energy); however Method E does not apply to a facility that receives and uses useful thermal energy from another facility that is eligible to receive Ontario emission allowances under another method for that useful thermal energy.
Auctions

 

  • Quarterly auctions – initially separate; joint auctions once the program is officially linked to Québec and California.
  • Sealed bid, single round, lots sizes of 1,000 allowances, uniform price.
  • First auction: March 2017 stand-alone auction (to be aligned with Québec and California’s schedule where auctions are currently held every quarter).
  • Participants must provide financial guarantee covering full value of any bid.

A summary of the results of the May 2016 Quebec-California auction is available online.

Price Stability Mechanisms

 

Auction Reserve Price

  • Ontario will align its reserve price with the price in the joint Quebec-California market for 2017. The 2016 reserve price in Quebec and California was CAD $12.82 and US $12.73 respectively.

Strategic Reserve

  • 5% of total allowances from the cap each year will be set aside by the province in a strategic reserve and made available to Ontario emitters at fixed prices to manage price impacts in the event there is high demand for allowances.
  • Ontario plans to align its price tiers with the price in the joint Quebec-California market for 2017. For Quebec and California, these price tiers were set at $40, $45 and $50 per allowance in 2013, escalating annually at 5% plus inflation and converted to Canadian currency.
  • Only covered entities can purchases allowances from reserve and allowances can only be used for compliance.
Early Reduction Credits

 

  • Early Reduction Credits will only be awarded for reductions of eligible emissions during the reduction period between January 1, 2012 and December 31, 2015.
  • Eligibility criteria and calculation methods for early reduction credits, which were discussed in the Appendix to the draft Regulation, will be finalized later in 2016.
Market Rules

 

  • A holding limit will apply to any registered entity, which will depend on supply of allowances in the market.
  • A purchase limit prevents covered entities from purchasing more than 25% of allowances sold at auction; for non-covered entities the limit is 4%.
Market Flexibility
Banking

 

  • Purchasers and covered entities would be allowed to bank allowances, without restrictions on the amount of allowances that may be banked or on how long they may be banked (subject to holding limit).
Borrowing

 

  • Borrowing of allowances from future compliance periods will not be allowed (with possible exception for complying with penalty rule).
Offsets

 

  • Ontario intends to allow the use of offsets for compliance in its program, and to take account of protocols for project types currently accepted in Quebec and California. Regulatory requirements for offsets will be released later in 2016.
  • Ontario plans to:
    • establish an Offset Credit Registry;
    • issue offset credits for emissions reductions and removals from eligible projects within Canada;
    • allow for the aggregation of projects (bundling of identical projects for reporting purposes);
    • recognize offset credits issued by California and Quebec, in anticipation of linking to Ontario’s program; and
    • limit use of offsets to up to 8% of the total compliance obligation.
Compliance Period

 

  • Initial four year compliance period to allow harmonization in a linked program with Quebec and California’s compliance periods. Subsequent compliance periods will be three years.
Emissions Reporting and Verification
Reporting

 

  • Capped participants must report annually under the Reporting Regulation (as required since 2010).
Registration

 

  • All participants must register with MOECC to participate in allowance trading market.
Verification

 

  • Third party verification is required for sources emitting ≥25,000 tonnes per year, or exceeds another verification threshold listed in the Reporting Regulation.
Compliance and Enforcement
Compliance Period Obligation

 

  • Following a compliance period, all entities with a compliance obligation must surrender a number of compliance units (e.g. allowances, offset credits) equal to their emissions during the period. This process is commonly referred to as a true-up.
  • Acceptable compliance units for true-up include emission allowances, strategic reserve allowances, early reduction credits and offset credits issued by Ontario.
  • For entities with a compliance obligation, the requisite number of compliance units from each entity’s compliance account will be placed into a retirement account and retired.
  • Any entity participating in the cap-and-trade market (including voluntary participants) may choose to voluntarily retire allowances or offset credits to benefit the environment.
  • An entity will be permitted to use offset credits for up to 8% of its total compliance obligation for each compliance period.
Penalty for Non-Compliance

 

  • An entity with excess emissions will be subject to a three-to-one compliance penalty where an additional three allowances for each allowance short at true-up is required, plus the allowance originally owed (meaning that four allowances must be surrendered for every tonne not covered in time).
Enforcement

 

  • Enforcement measures for the cap-and-trade program are aligned with those measures set out in the Quebec and California cap-and-trade programs.
  • Potential fines for non-compliance with the Act or related regulations range from minimum fines set at $5,000 and $25,000 to maximums as high as $4 million and $6M million for individuals and corporations, respectively, on first convictions. The Act also allows for the issuance of administrative monetary penalties, which are similar to the environmental penalties that can be issued under the Ontario Environmental Protection Act and the Ontario Water Resources Act. Additional rules for administrative monetary penalties will be posted later in 2016.
Linking
Western Climate Initiative

 

  • Ontario intends to link its proposed cap-and-trade program with the existing programs in Quebec and California, which will likely occur in 2018.
  • Ontario will propose any necessary amendments to the regulations to facilitate linking of the Ontario program with the programs of Quebec and California once linking agreements are in place (Quebec and California are currently parties to a linking agreement for their joint program). These amendments would include:
    • recognition of allowances and credits from Quebec and California;
    • adjustment of the holding limits and purchase limits to account for the size of the linked markets; and
    • currency adjustments related to the auction.
  • Manitoba has indicated that it plans to join the linked program as well.