During the past four years, more than $4 billion from greenhouse gas emission credits that are auctioned off through the state’s cap-and-trade program have poured into California’s general fund.

The money, which is paid for by businesses seeking to emit more pollution into the atmosphere than is allowed through state caps, has become somewhat controversial, given the way it is collected from industry.

By late April, California’s Third District Court of Appeal is expected to rule whether the auction scheme constitutes illegal taxes or regulatory fees, a question raised in litigation challenging the auctions.

Cap and trade began in California in 2013. It was born out of a law, AB 32, which was enacted by the state legislature in 2006 as a way to help control greenhouse gas emissions.

The way the program works is that companies receive an allowance for each ton of greenhouse gases they emit, and if they seek to go above that cap, they are able to purchase additional allowances from other companies—hence "cap and trade."

The additional allowances, or credits, are obtained through state auctions.

One of the legal arguments made by those challenging the auctions is that business owners are essentially paying a new tax through the program, something that would require a two-thirds supermajority of the legislature for passage.

The original law that led to the creation of cap and trade, AB 32, was merely passed by simple majority.  

Earlier this year, a three-judge panel of the Third District Court of Appeal held oral arguments in the consolidated lawsuits challenging the cap-and-trade auctions.

If the court finds it to be a tax, then it’s “basically not a legitimate program from the get-go, and there would need to be a remedy there,” Ethan Elkind, the director of the climate program at the University of California, Berkeley School of Law, told the Northern California Record.

Elkind said the court might find that the auction credits are not new taxes, but rather regulatory “fees,” something that seemingly would not require a two-thirds majority legislative vote.

In 2010, however, after the passage of the original law, voters, through a public referendum, narrowed the definition of “fee,” also requiring a two-thirds legislative supermajority for any new such fees, according to Elkind, although that does not seem to be retroactive to the cap-and-trade law.  

Elkind, for one, believes that the appeals court will likely rule against the plaintiffs, which include the California Chamber of Commerce and Morning Star Packing Co., which processes bulk tomato products.  

“I think that the state is on very solid ground that it [the auction credits] is neither a tax or a fee,” Elkind said, noting that’s essentially why the Chamber lost its case at the trial court level.

The Chamber filed suit back in 2012 seeking to have the program deemed an unlawful business tax, the Record previously reported.

The plaintiffs also argued that the California Air Resources Board did not have statutory authority to hold the cap-and-trade auctions because the state legislature didn’t intend for the board to raise money by selling off emission allowances.  

Both the Chamber and co-plaintiff Morning Star took their case to court, although a trial judge sitting in Sacramento ruled in late 2013 that the California Air Resources Board does, in fact, have the authority to conduct emission allowance auctions and that the proceeds do not constitute an illegal tax.

Elkind said he believes the trial court judge ruled correctly, since the money raised through the cap-and-trade auctions does not resemble a traditional tax. First, the amount of money varies, and secondly, there’s the opt-in factor. Businesses essentially decide if they want to purchase the additional allowance credits, Elkind said. They are not forced to.

Aside from the litigation factor, Elkind said there is also a political aspect to the situation.

Cap-and-trade is controversial, which is evident by the fact that only one state—California—currently has such an economy-wide program on the books.

California Gov. Jerry Brown is a staunch supporter of cap-and-trade, Elkind said, and even certain industry likes cap-and-trade because it offers more flexibility than strict regulation.

Then again, there are those businesses that oppose the program because of its economic implications; it can have a costly effect on business.  

To date, the cap-and-trade auction has raised more than $4 billion, according to the Associated Press. Under AB 32, the 2006 law permitting cap-and-trade, the program’s authority only extends to 2020, although there is a political push to take that timeline even further, Elkind said, with Brown, the governor, firmly behind moving another decade beyond that cut-off.

The AP reported that California and the Canadian province of Quebec are the only places in the world that limit carbon emissions in this way.

As for the litigation aspect, both the plaintiffs and defendants will likely appeal the Third District Court of Appeal’s pending ruling to the state Supreme Court.

Elkind noted that regardless of how the cap-and-trade issue plays out, California could still look at other ways to curb emissions, such as through a carbon tax and straight-up regulation.

Cap-and-trade, however, is where the financial pain comes into play since companies that want to pollute above allowable levels have to literally pay for their emissions.

Loren Kaye, president of the California Foundation for Commerce and Education, a think tank affiliated with the Chamber, said, “It is our contention that the auctions don’t have any other purpose than to raise revenue.” A state cap is what reduces pollutants, he said. “The auctions don’t reduce greenhouse gas emissions.”

Kaye did agree with Elkind, the law professor, that a cap-and-trade program is the preferred method by which to control emissions, saying that it is the most “economically efficient and least costly system,” at least as related to other means such as strict regulation or a carbon tax.

The plaintiffs’ argument is not against the cap-and-trade program itself, Kaye reiterated, but rather with the auctions specifically.

While California appears to be taking the lead to combat climate change, there’s no telling what will occur at the national level, especially given the recent election of President Donald Trump, who has expressed skepticism about global warming and plans to limit funding for the Environmental Protection Agency according to his recent budget proposal.

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