The question of who pays and the operational basics on how to set up EU Emission Trading Scheme (ETS) accounts still need to be answered as the industry draws ever closer to the January 1, 2024, compliance deadline.
Experts at a Baltic Exchange Dry Cargo Forum, supported by the FFA Brokers Association (FFABA), highlighted the quirks of the regulation, and looked to clarify some of the unknowns.
Panagiotis Georgilis, senior associate at WFW, attempted to ease nerves by explaining that the EU ETS, while new to the shipping sector, has been in existence for some time in other industries. “No doubt that comes with its own set of challenges, but there is hopefully experience from other markets that people in shipping can leverage to make sure they comply and adjust as quickly and as smoothly as possible because, legally speaking, the EU ETS is just an extension of the existing EU directive to shipping,” he said.
The scope of the EU ETS in shipping is extensive. It applies to commercial maritime transport involving cargo or passengers with vessels over 5,000 gross tonnage. Additionally, any connection to the EU market, regardless of where the company is based, makes the EU ETS relevant. This includes voyages between EU ports, time spent in EU ports, departures from EU ports, and arrivals into EU ports, even if from non-EU ports.
Georgilis explained that ships engaged in these activities would be required to surrender allowances corresponding to their emissions. Initially, the focus is on CO2 emissions, but from 2026, other emissions like methane and nitrous oxide will also be regulated.
Who pays?
Different factors are pulling in different directions. From the perspective of the regulation, the party that is responsible for the compliance is the shipping company. And the shipping company can mean a number of different things. It could be the owner. It could be the manager; it could be a bareboat charterer.
“But I think it’s fairly well understood that in practice it’s going to be the manager, and shipping companies are going to have to think their management agreements and how they are crafted in a way that accommodates the regulatory obligations under the EU ETS.”
From a regulatory perspective, shipping companies are responsible for compliance, but the commercial reality complicates matters. Charterers, who influence factors like ports, speed, route, and bunker quality, should ideally share the emissions cost. Georgilis highlighted the presence of template clauses, such as the BIMCO ETS clause, which can serve as a foundation for negotiations in time charter parties.
Enforcement, however, remains unclear since individual member states will regulate each shipping company. Companies based outside the EU may even consider establishing a presence in the EU to reduce regulatory uncertainty.
“If you will have EU ETS exposure it’s not entirely clear who is going to regulate you,” he said. “In practice this will depend on your pattern of trade over a certain period of time, say two or four years, but there is a level of uncertainty there until the EU actually decides which member state is going to be allocated with the responsibility for regulating.”
Practical challenges
Hugh Taylor, manager of EU ETS consulting and communications at Freight Investor Services, provided additional insights into the new regulatory landscape. He highlighted the practical challenges that shipping companies face when trying to participate in the EU ETS.
And while they can open trading accounts, the reality differs. One major hurdle is the requirement for local VAT registration. Since many shipping companies are incorporated in non-EU jurisdictions, this requirement creates significant obstacles. Malta, which does not impose this requirement, faced a flood of applications this year, causing them to halt new applications with a backlog. The Netherlands, on the other hand, does not require EU VAT registration but conducts a risk analysis of the country of origin. Countries like Spain and Sweden do not require local VAT registration but ask for account representatives with permanent residency in their countries.
“In short, if you don’t have an EU VAT number at present the situation is in fact very difficult,” he said. “Indeed, it has been a bit of a messy scramble by many shipping companies to try and set up an account.”
Taylor noted that despite these challenges, there are trading options available to companies. Some clearing members, like ADM, allow companies without trading accounts to buy futures if they commit to trade out of the futures before they expire.
Furthermore, EUAs can be purchased in the primary market through auctions or on the secondary market via banks, brokers, and traders. They can be acquired in the form of futures or physical EUAs. Smaller shipping companies, in particular, see value in buying physical EUAs on the over-the-counter (OTC) market, as it is more cost-effective and accessible.
Real reduction?
Taking a helicopter view, Georgilis questioned whether the scheme will actually reduce global emissions.
“And that’s certainly a risk with shipping because we could see older and more polluting tonnage shifting entirely away from the EU and given this is a global problem it’s not clear where that leaves us in terms of reducing emissions and tackling climate change.”
He acknowledged that there are other ETS schemes that are being considered, the more prominent being the IMO’s ETS, although the IMO tends to “prioritise consensus over speed, so it’s not exactly clear when that is going to be in place”. He warned that if the IMO continues to drag its feet, it’s likely that the EU will become even more aggressive in terms of requiring more allowances for voyages that have an EU nexus.
Also, he raised concerns on how the EU ETS interplays with other environmental regulations. “The key example here is the Carbon Intensity Index – both want to reduce the level of greenhouse gas emissions, but it’s not entirely clear in practice that both regulations will be pulling in the same direction.” Don’t assume because you’re doing something to improve your CII rating, you will need to collect and surrender fewer EU Allowances,” he warned.
Source: Baltic Exchange