TCI Program Established to Reduce Carbon Emissions From Transportation

Latham & Watkins LLP

[co-authors: Brittany Davis and Sabrina Singh]

The program will include a multi-jurisdictional cap-and-invest program and aims to address environmental justice and equity concerns.

On December 21, 2020, the Governors of Massachusetts, Rhode Island, and Connecticut, as well as the Mayor of the District of Columbia, announced that their respective jurisdictions would establish the Transportation & Climate Initiative Program (TCI-P) and released a memorandum of understanding (MOU) describing the agreed-upon principles for adoption and implementation of the TCI-P. While not part of the MOU, the states of New York, New Jersey, Delaware, Maryland, Virginia, Vermont, Pennsylvania, and North Carolina released a statement signaling their desire to work with the states party to the MOU and the Transportation & Climate Initiative (TCI) in general. On March 1, 2021, the TCI released draft Model Rules for public review. Once finalized, the Model Rules are intended to be adapted for use by each TCI-P signatory jurisdiction via state-specific rulemaking processes.

Background

In December 2018, after having successfully reduced greenhouse gas emissions from the power sector by 53.3%, a majority of the Regional Greenhouse Gas Initiative (RGGI) jurisdictions announced plans to design a program to address carbon emissions from the combustion of transportation fuels. (See Latham’s blog post TCI Proposes to Reduce Carbon Emissions From Transportation in the Northeast.) In October 2019, the TCI published a Framework for a Draft Regional Policy Proposal, which described the TCI-P’s key design elements. (See Latham’s blog post TCI Releases Framework for Draft Policy to Reduce GHG Emissions From Transportation.)

In December 2019, the TCI issued for public comment a draft MOU that laid out the program’s framework. The draft MOU detailed the cap-and-invest program and outlined model rules that jurisdictions could use to draft their own implementing legislation or regulations. Shortly after the release of the draft MOU, New Hampshire Governor Chris Sununu announced his state’s exit from the TCI. Governor Sununu claimed that the TCI-P would leave New Hampshire’s rural communities “at a severe disadvantage” because the TCI-P effectively would impose a gasoline sales tax if the state joined the program.

Despite the exit of New Hampshire from the TCI, the remaining states continued to develop the program. While the COVID-19 pandemic slowed the progress of the TCI-P, the TCI held public webinars in September 2020 to discuss the development and potential equity impacts of the TCI-P and the draft MOU. Examples of state policies discussed during these webinars include integration of battery-powered buses, additional bike and pedestrian paths, and funding for owners of multi-unit dwellings to acquire EV charging stations.

Core Principles and Mechanism

While each signatory jurisdiction will develop their own state-specific regulations, the MOU and the draft Model Rules contain important principles that each jurisdiction must incorporate into their individual programs. The design framework of the TCI-P is consistent with the TCI’s previous statements. This framework includes a multi-jurisdictional cap-and-invest program, under which certain fuel suppliers will be required to acquire compliance instruments called “allowances” to cover carbon dioxide emissions from specified fuels (i.e., fossil-based gasoline and diesel). Each participating jurisdiction will set a “cap” of allowable emissions that declines each year, and auctions for allowances that represent these capped emissions will start in 2022. The MOU and the draft Model Rules require implementation of cost containment and market stability measures as part of these auctions, including a cost containment reserve, an emissions containment reserve, and a minimum auction reserve price below which allowances will not be sold. Finally, the MOU contemplates various mechanisms aimed at providing compliance flexibility, such as three-year compliance periods, unlimited allowance banking, and limited use of offsets.

The MOU indicates that the specific entities required to comply with the TCI-P’s allowance requirement will be “State Fuel Suppliers,” which are defined as holders of “Affected Fuel” at fuel terminals. “Affected Fuel” is defined as “the fossil fuel components of motor gasoline and on-road diesel fuel.” The MOU leaves open the possibility that certain “blendstocks” (such as ethanol-blended fuel and biodiesel) will not be considered Affected Fuels based on the definition in the MOU. The draft Model Rules indicate that the framework of State Fuel Suppliers and Affected Fuel from the MOU continues to apply, as the compliance obligation attaches to emissions from the fossil fuel components of transportation fuel. The draft Model Rules also indicate that blendstocks are still regulated (if sold by a State Fuel Supplier), but the emissions from the biomass-derived content of this fuel will not count toward the selling entity’s total CO2 emissions. The potential exemption of biomass-derived content is relevant, since regulated entities generally only have to procure allowances to cover total CO2 emissions from the fossil fuel components of the transportation fuel they sell.

The draft Model Rules clarify that State Fuel Suppliers (called “Jurisdiction Fuel Suppliers” under the draft Model Rules) are (i) position holders at a terminal rack that disburse transportation fuel for delivery in the relevant jurisdiction, and (ii) distributors that complete certain other deliveries of transportation fuel in that jurisdiction. State Fuel Suppliers must register with the TCI-P and provide a monthly emissions report as well as an annual third-party-verified report. They must surrender allowances to cover the emissions from the transportation fuels disbursed to or delivered in the jurisdiction after each three-year compliance period and file a compliance certification. For each ton of emissions above the number of allowances in the State Fuel Supplier’s compliance account at the compliance deadline, three allowances must be submitted, plus any other penalties under state law.

Each signatory state will sell allowances at single-round, sealed-bid auctions, held quarterly or as often as practical. Auctions will have a reserve price, and if total demand for allowances exceeds the number of allowances, cost containment reserve allowances may be sold. An independent auction monitor will monitor each auction and the allowance market data.

Three types of projects are eligible for CO2 offsets: (i) landfill methane capture and destruction, (ii) sequestration of carbon due to reforestation, improved forest management, or avoided conversion, and (iii) projects that avoid methane emissions from agricultural manure management operations. Projects in the United States but outside the signatory states may also be eligible to generate offsets if a cooperating regulatory agency has entered into an MOU with the appropriate regulatory agencies of all participating jurisdictions. Projects that include an electric generation component are generally not eligible for offsets.

The draft Model Rules set a target for emissions and fuel shipment data reporting to begin on January 1, 2022, with allowance holding and surrender requirements to commence a year later on January 1, 2023.

Environmental Justice and Equity Concerns

Addressing environmental justice concerns will likely be paramount to the success of the TCI-P, as environmental justice continues to be a focus of regional and national environmental policy. The MOU and the draft Model Rules contain a substantial commitment to addressing environmental justice and equity concerns. A minimum of 35% of each participating jurisdiction’s proceeds from auction revenues will be committed to ensure that overburdened and underserved communities benefit equitably from clean transportation projects and programs. Each signatory jurisdiction will develop an Equity Advisory Body composed of diverse stakeholder groups, including a majority represented by overburdened and underserved communities. The Advisory Body will develop criteria, provide recommendations, and develop metrics for investment in underserved communities. Building on the MOU and the draft Model Rules, the TCI provided an update in March 2021 about its goal to expand opportunities for public engagement. The TCI aims to develop a model TCI-P stakeholder engagement process and facilitate conversations with environmental, climate, and transportation justice groups to invite input on its draft Model Rules.

Significance Beyond Signatory States

The MOU indicates that several elements of California’s cap-and-trade program will be incorporated into the TCI-P. Both programs establish a “cap” of allowable emissions that declines each year, along with auctions for allowances that represent such capped emissions. Both programs invest the proceeds from such auctions in low-carbon technologies and underserved communities (though the investments associated with the TCI-P will likely focus solely on the transportation sector). A key difference between the programs is the scope of covered emissions; while the California cap-and-trade program sets an economy-wide cap on emissions, the TCI-P will cover only transportation-sector emissions.

As noted above, the MOU contemplates compliance flexibility mechanisms such as unlimited allowance banking and use of alternate compliance instruments called “offsets” that can be used to lower an entity’s compliance obligations in certain circumstances. The California cap-and-trade program utilizes both of these mechanisms, but the use of offsets in the California program has been curtailed due to critiques levied by environmental justice groups. For instance, the 2018 amendments to the California cap-and-trade program sought to address these groups’ concerns by requiring that a subset of offsets provide direct environmental benefits to California, while prioritizing disadvantaged communities, Native American or tribal lands, and rural and agricultural regions.

Nonetheless, some environmental justice groups remain opposed not only to offsets but to cap-and-trade programs generally. It will be important for all market participants, but particularly covered fuel suppliers seeking to minimize compliance costs, to closely track whether and how the TCI-P: (i) integrates safeguards employed by the California cap-and-trade program to ensure the integrity of offsets, such as requirements that offsets represent real, additional, permanent, verifiable, quantifiable, and enforceable emissions reductions; and (ii) imposes geographic restrictions on offset sourcing similar to those employed by the California cap-and-trade program.

Some jurisdictions will develop so-called “complementary measures” following the implementation of the TCI-P. For example, Massachusetts aims to develop programs that mimic existing carbon-reduction programs in California in order to build on the emissions reductions to be achieved by the TCI-P. Massachusetts will also pursue the implementation of a regional Low Carbon Fuel Standard (LCFS) that is designed to reduce the levels of carbon emissions from transportation fuels by 2030 through a crediting program that supports low carbon substitutes for transportation fuels. Massachusetts hopes to work with its neighbors and other states to implement this regional LCFS by 2026.

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.

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