EU Emissions Trading System to expand to shipping from 1 January 2024

After prolonged negotiations, the EU has agreed to include maritime emissions in the EU Emissions Trading System (EU ETS) from 1 January 2024.

The EU ETS is an emission trading scheme that permit the emission of greenhouse gases in exchange for allowances.

There has long been talk to expand the EU ETS to shipping. Maritime transport was one of the only sectors where the EU had not implemented specific greenhouse gas reduction measures. Coupled with a lack of sufficient measures from the International Maritime Organization ("IMO"), targeted EU regulation has long been on the cards.

On 14 July 2021, as part of its "Fit for 55" regulatory package, the EU Commission adopted a proposal to include emissions from maritime activities in the EU ETS. The EU Parliament and the EU Council subsequently published their positions on 22 and 29 June 2022 respectively, which contained slight amendments to the Commission's proposal. Since then, there have been extended negotiations. The negotiations culminated in the institutions reaching a preliminary agreement on 29 November 2022, which was confirmed on 18 December 2022.

Although there is no final text setting out the finer details of the directive yet, this article seeks to describe the main aspects of the new regulation.

Main provisions

The main duty imposed by the EU ETS is that shipping companies have to acquire and submit allowances for their CO2-emissions. The duty to submit allowances applies to all emissions on trips between EU and EEA ports, as well as 50 % of the emissions from trips between the EU and third countries. The directive is flag-neutral, meaning that it will apply to all vessels sailing to or from EU/EEA ports, regardless of where they are flagged or where the shipowner is incorporated.

The directive will at the outset only apply to vessels over 5000 GT. Offshore vessels over 5000 GT will be included in from 2027; however, shipowners are already from 2025 obliged to monitor, report and verify the CO2-emissions of these vessels under the EU's MRV Regulation. Finally, the EU will in 2026 review whether the scope of the EU ETS should be expanded to also include emissions from general cargo vessels and offshore vessels between 400 GT and 5000 GT.

Allowances will mainly be auctioned off by Member States, and can subsequently be traded between shipowners and other industry stakeholders in need of allowances. Revenues generated from the auctioning of 20 million allowances will be earmarked for projects related to decarbonization and improving ship's energy efficiency.

EU ETS's application to shipping will follow a staggered approach. The shipping company has to submit allowances for 40 % of its emissions for 2024, rising to 70 % for 2025. The directive will apply in full from 2026. From 2026, the shipping company will also have to submit allowances for emissions of methane and nitrous oxide, in addition to CO2.

Finally, the directive will be "revisited" in light of similar regulation from the IMO. Although the IMO's work has been considered slow and insufficient, there are indications that global regulation may be implemented. As an example, there was progressive debates regarding the adoption of a carbon levy most recent December meeting of the Marine Environment Protection Committee, the sub-group tasked with adopting greenhouse gas reducing measures within the IMO.

The responsible entity and commercial considerations

The duty to submit allowances is placed on the "shipping company". This is defined as the shipowner or any other entity such as the manager or bareboat charterer that has “assumed the responsibility for the operation of the ship from the shipowner”. This definition is in line with similar definitions used by the IMO, for example, in its 1994 international safety management code for the safe operation of ships and pollution prevention (the ISM Code). This means that the ship's management company likely will be considered the responsible party to comply with the regulation, as the DOC-holder under the ISM Code.

Shipowners or ship managers that wish to hold other entities responsible for penalties and other losses which may occur in connection with the EU ETS will therefore need to ensure that this is clearly specified in their contracts. In this regard, BIMCO's newly published "Emission Trading Scheme Allowances Clause for Time Charter Parties 2022" will provide a good starting point for shipowners. BIMCO is also currently revising its SHIPMAN form, which will include a dedicated ETS Allowance Clause.

Looking ahead

Although the EU institutions have reached an agreement, an authoritative text must be finalized and the EU ETS directive must be amended through the standard regulatory process. As the world's first market-based measure to curb greenhouse gas emissions within shipping, we expect that there may be some international concern, particularly as other countries or regions look to set up their own emissions trading systems.

We would advise shipowners, charterers and ship managers to carefully consider how the new legislation will impact their business, ensure compliance, and certify that contractual relationships adequately account for any increased costs or risks.

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