CA Court of Appeal’s Split Decision Upholds CARB Cap-and-Trade Program

by Perkins Coie

Perkins Coie

In a 2-1 decision, the California Court of Appeal, Third Appellate District, upheld the California Air Resource Board’s cap-and-trade program for greenhouse gas allowances. California Chamber of Commerce v. State Air Resources Board,  No. C075954 (3rd Dist., April 6, 2017). In upholding the validity of the auction the California Air Resources Board (CARB) used to distribute a portion of the (GHG) allowances auction, the court created an important new test for assessing whether the auction should be considered a tax. The majority found that the allowance auction was not compulsory and provided a valuable commodity to the purchaser, and thus was not a tax requiring supermajority approval under Proposition 13.

Background on CARB’s GHG Cap-and-Trade Program

In 2006, California enacted AB 32 with the goal of reducing greenhouse gas (GHG) emissions to 1990 levels by the year 2020. The CARB is the designated state agency charged with regulating sources of GHG emissions under AB 32. The bill directed CARB to adopt rules and regulations to achieve the maximum technologically feasible and cost-effective reductions in GHG emissions.

Pursuant to AB 32’s directives, CARB promulgated regulations that created a cap-and-trade-program. The program sets an aggregate emissions “cap” on covered entities and enforces the cap by issuing a limited number of allowances, the total value of which is equal to the cap.[1] Covered entities must demonstrate compliance with the program by surrendering allowances that correspond to that entity’s GHG emissions requirements.[2]

Emissions allowances can be obtained in three ways: (1) Some allowances are distributed by CARB for free; (2) allowances are distributed by CARB through an auction; and (3) allowances can be obtained by trading on the secondary market.[3]

CARB’s allowance auction takes place through a single round of sealed bidding, and winners pay the market-clearing price. In 2012, the state legislature passed four bills specifying how the auction proceeds would be used to support the regulatory purposes of AB 32.

Several corporations and industry groups challenged the auction mechanism as exceeding CARB’s statutory authority under AB 32 and as an unconstitutional tax that violated the supermajority requirements of Proposition 13.

CARB’s Delegation Under AB 32

The petitioners argued that CARB’s allowance auction exceeded the powers delegated to CARB by AB 32. According to the petitioners, CARB was limited to choosing a method of distributing the allowances that was either free of charge or revenue-neutral. The petitioners also raised an array of arguments for why AB 32 should be interpreted to preclude CARB from utilizing the auction mechanism.

The court (in the portion of the decision joined by the entire panel) recognized AB 32 as conferring “considerable discretion” to CARB to effectuate the goals of AB 32. The court noted that the AB 32 directives are “exceptionally broad and open-ended,” leaving “virtually all decisions to the discretion of the Board.” Given this discretion, CARB did not require specific statutory authorization to utilize the auction mechanism.

The court further found that CARB’s use of the allowance auction was ratified in 2012 by the legislation that directed how the auction proceeds were to be spent. Whatever defects or gaps there may have been with the original legislation regarding the authority to use an auction, according to the court, they were clearly cured by this subsequent legislation.

Is the Allowance Auction a Tax?

Proposition 13 requires any change in state statute that results in a higher tax to be passed by a two-thirds majority in each of the two houses of the Legislature.[4] If CARB’s auction was deemed a tax, it would have been valid since neither AB 32 nor the 2012 ratifying legislation was passed by the requisite supermajority.

In analyzing whether the allowance auction was a tax subject to the Proposition 13 supermajority requirement, the panel created a new legal standard. The court found that the test used to determine whether regulatory exactions constitute a tax set forth in Sinclair Paint v. State Board of Equalization[5] (and which was used by the trial court) was not appropriate because the auction was “a different system entirely” from the regulatory fee at issue in Sinclair Paint. The new test created in this case considered two criteria to determine whether the auction bore the “hallmark” characteristics of a tax. Under this test, a payment to the government is considered a tax subject to Proposition 13 if (1) it is compulsory; and (2) it does not grant any special benefit to the payer. The court, however, disagreed as to how these criteria applied to the cap-and-trade allowance auction.

Whether the auction is compulsory. Petitioners argued that certain businesses would have to obtain a sufficient number of emissions to stay in business in California, and that companies are, in effect, compelled to purchase allowances from the auction as it would be more expensive to buy allowances on the secondary market. The dissent found this reasoning persuasive, and maintained that the allowance auction was compulsory because it was a cost that would have to be borne if certain businesses want to continue operating in California.

The majority, however, found that the auction was not compulsory because regulated entities could comply with the cap-and-trade program without participating in the auction by reducing emissions, purchasing allowances from third parties, and/or purchasing emissions credits. The majority acknowledged that the cap-and-trade program could result in a higher cost of doing business and that some companies might relocate out of the state as a result of the program. Nevertheless, the majority concluded that businesses do not have a vested right to pollute, and that continuing to do business and polluting is a voluntary business decision.  

Whether there was a special benefit. The majority and dissent also disagreed as to whether the allowance purchased via auction conferred a specific benefit on the buyer. The majority found that the allowance auction conferred a valuable asset—the privilege to pollute the air—to the auction participants. The allowance could be used for current compliance, banked or sold, each of which conferred value on the holder of the allowance. The specific, identifiable benefit associated with the purchased allowance thus distinguished it from a tax.

The dissenting opinion, however, expressed skepticism regarding the value of the allowances. The dissent noted that the allowances could be terminated at the state’s discretion, and that CARB’s regulations specifically state that the allowances do not constitute a property right. As such, the value of the allowance was ephemeral. Thus, the dissent maintained that the auction should properly be viewed as a revenue-generating vehicle for the state that businesses are compelled to pay into and thus bore the indicia of a traditional tax.


While this decision represents an important victory for proponents of the cap-and-trade program, there remains significant uncertainty clouding the future of the program.

The decision is notable for its clear break with precedent as to the appropriate method of determining whether regulations constitute taxes requiring supermajority approval. As shown in the sharply contrasting majority and dissenting opinions, there is uncertainty as to how this test should be applied. Review has been sought in the Supreme Court of California, and the high court may be more inclined to grant review because of the novel legal standard adopted to assess whether a regulation constitutes a tax. Further, the California Legislature is now considering whether to extend the program past its 2020 expiration date, and CARB is in the midst of amending the cap-and-trade regulations.


[1] The entities covered by the program are from a broad spectrum of industries, including electricity, natural gas and fuel suppliers.

[2] In addition to allowances, offsets (voluntary reductions from a source not directly covered by the program) may also be used to fulfill compliance obligations.

[3] CARB also retains some allowances in a price containment reserve to buffer against unexpectedly high auction prices. As of January 2015, about 500 million allowances have been distributed for free and about 75 million have been auctioned, and the price containment reserve has not been used.

[4] Cal. Const., art. XIIIA, § 3(a).

[5] Sinclair Paint Co. v. State Bd. Of Equalization, 15 Cal. 4th 866 (1997).

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

© Perkins Coie | Attorney Advertising

Written by:

Perkins Coie

Perkins Coie on:

Readers' Choice 2017
Reporters on Deadline

"My best business intelligence, in one easy email…"

Your first step to building a free, personalized, morning email brief covering pertinent authors and topics on JD Supra:
Sign up using*

Already signed up? Log in here

*By using the service, you signify your acceptance of JD Supra's Privacy Policy.
Privacy Policy (Updated: October 8, 2015):

JD Supra provides users with access to its legal industry publishing services (the "Service") through its website (the "Website") as well as through other sources. Our policies with regard to data collection and use of personal information of users of the Service, regardless of the manner in which users access the Service, and visitors to the Website are set forth in this statement ("Policy"). By using the Service, you signify your acceptance of this Policy.

Information Collection and Use by JD Supra

JD Supra collects users' names, companies, titles, e-mail address and industry. JD Supra also tracks the pages that users visit, logs IP addresses and aggregates non-personally identifiable user data and browser type. This data is gathered using cookies and other technologies.

The information and data collected is used to authenticate users and to send notifications relating to the Service, including email alerts to which users have subscribed; to manage the Service and Website, to improve the Service and to customize the user's experience. This information is also provided to the authors of the content to give them insight into their readership and help them to improve their content, so that it is most useful for our users.

JD Supra does not sell, rent or otherwise provide your details to third parties, other than to the authors of the content on JD Supra.

If you prefer not to enable cookies, you may change your browser settings to disable cookies; however, please note that rejecting cookies while visiting the Website may result in certain parts of the Website not operating correctly or as efficiently as if cookies were allowed.

Email Choice/Opt-out

Users who opt in to receive emails may choose to no longer receive e-mail updates and newsletters by selecting the "opt-out of future email" option in the email they receive from JD Supra or in their JD Supra account management screen.


JD Supra takes reasonable precautions to insure that user information is kept private. We restrict access to user information to those individuals who reasonably need access to perform their job functions, such as our third party email service, customer service personnel and technical staff. However, please note that no method of transmitting or storing data is completely secure and we cannot guarantee the security of user information. Unauthorized entry or use, hardware or software failure, and other factors may compromise the security of user information at any time.

If you have reason to believe that your interaction with us is no longer secure, you must immediately notify us of the problem by contacting us at In the unlikely event that we believe that the security of your user information in our possession or control may have been compromised, we may seek to notify you of that development and, if so, will endeavor to do so as promptly as practicable under the circumstances.

Sharing and Disclosure of Information JD Supra Collects

Except as otherwise described in this privacy statement, JD Supra will not disclose personal information to any third party unless we believe that disclosure is necessary to: (1) comply with applicable laws; (2) respond to governmental inquiries or requests; (3) comply with valid legal process; (4) protect the rights, privacy, safety or property of JD Supra, users of the Service, Website visitors or the public; (5) permit us to pursue available remedies or limit the damages that we may sustain; and (6) enforce our Terms & Conditions of Use.

In the event there is a change in the corporate structure of JD Supra such as, but not limited to, merger, consolidation, sale, liquidation or transfer of substantial assets, JD Supra may, in its sole discretion, transfer, sell or assign information collected on and through the Service to one or more affiliated or unaffiliated third parties.

Links to Other Websites

This Website and the Service may contain links to other websites. The operator of such other websites may collect information about you, including through cookies or other technologies. If you are using the Service through the Website and link to another site, you will leave the Website and this Policy will not apply to your use of and activity on those other sites. We encourage you to read the legal notices posted on those sites, including their privacy policies. We shall have no responsibility or liability for your visitation to, and the data collection and use practices of, such other sites. This Policy applies solely to the information collected in connection with your use of this Website and does not apply to any practices conducted offline or in connection with any other websites.

Changes in Our Privacy Policy

We reserve the right to change this Policy at any time. Please refer to the date at the top of this page to determine when this Policy was last revised. Any changes to our privacy policy will become effective upon posting of the revised policy on the Website. By continuing to use the Service or Website following such changes, you will be deemed to have agreed to such changes. If you do not agree with the terms of this Policy, as it may be amended from time to time, in whole or part, please do not continue using the Service or the Website.

Contacting JD Supra

If you have any questions about this privacy statement, the practices of this site, your dealings with this Web site, or if you would like to change any of the information you have provided to us, please contact us at:

- hide
*With LinkedIn, you don't need to create a separate login to manage your free JD Supra account, and we can make suggestions based on your needs and interests. We will not post anything on LinkedIn in your name. Or, sign up using your email address.