Further memorandum from HM Treasury
CLIMATE CHANGE LEVY
1. This memorandum sets out the further
details on the design of the climate change levy contained in
the Pre-Budget Report, published on 9 November.
2. In Budget 1999, the Govenment announced
that, as part of its wider climate change programme, it would
bring forward legislation in Finance Bill 2000 to introduce a
climate change levy on energy use by business with effect from
April 2001. This followed the recommendations made by Lord Marshall
in his report published in November 1998.
3. Immediately after the Budget, HM Customs
and Excise launched a major consultation exercise with business
and other interested parties on the design issues surrounding
4. The aim has been to design the levy in
a way that maximises its environmental effectiveness whilst safeguarding
the competitiveness of UK business. Views from a wide range of
organisations have fed into this consultation process. In the
light of the responses to the consultation exercise, and other
representations made, the Government intends to:
Increase the environmental effectiveness of
the levy by:
exempting from the levy electricity
generated from "new" renewable sources of energy and
in "good quality" combined heat and power plants; and
trebling the support for energy efficiency
measures arising from the levy package from £50 million to
around £150 million in 2001-02, to allow for the introduction
of a system of enhanced capital allowances for energy saving investments.
Protect competitiveness by:
reducing the overall size of the
levy to £1 billion in 2001-02, with a commensurate reduction
in the main levy rates;
offering an 80 per cent discount
for those energy intensive sectors that sign energy efficiency
agreements that meet the Government's criteria; and
recycling all the revenues raised
back to business as a whole through a 0.3 percentage point cut
in employers' National Insurance Contributions and the additional
support for energy efficiency measures.
5. Draft legislative clauses reflecting
the revised design of the levy were published on 26 November.
6. The exemptions for "new" renewables
and "good quality" CHP will increase the environmental
effectiveness of the levy (see below for details). As a result
of this, and the trebling of support for energy efficiency measures,
it has been possible to set the levy at a lower level than the
illustrative rates contained in the HM Customs and Excise consultation
document, whilst increasing the environmental benefits of the
package as a whole. This underlines the Government's commitment
to design the levy in such a way as to achieve its environmental
goals whilst protecting UK business.
7. The climate change levy is designed to
be revenue neutral for the private sector, with the revenues raised
being fully recycled to business, primarily through a reduction
in employers' National Insurance Contributions (NICs). This is
consistent with the Government's policy of switching the burden
of taxation from "goods" like labour, to "bads"
like pollution. In 2001-02, the levy is expected to raise £1
billion, all of which will be recycled back to business as a whole
via a 0.3 percentage point reduction in employers' NICs and the
additional support for energy efficiency measures. The rates of
the levy are expected to be:
||Levy Rate in 2001-02 (pence per kilowatt hour)
8. The Government will continue to monitor and evaluate
the contribution the levy makes to the UK's targets for reducing
greenhouse gas emissions. As with other excise duties, the Government
expects that the rates of the levy will at least keep pace with
inflation over time.
9. Responses to the HM Customs and Excise consultation
document and other representations made on the design of the climate
change levy indicated widespread support for increasing the resources
directed to energy efficiency measures within the climate change
levy package. In light of the representations made, the Government
is minded to treble its support for energy efficiency measures
under the climate change levy packagemeaning the £50
million announced in Budget 99 for 2001-02 would rise to around
£150 million. This would allow for a system of 100 per cent
first year capital allowances for energy saving investments to
be introduced alongside the £50 million energy efficiency
fund announced by the Chancellor in Budget 99. Subject to any
practical or legal considerations, such enhanced allowanceswhich
businesses would be able to set against their corporation or income
tax billscould be introduced alongside the climate change
levy in April 2001.
10. A consultation document was issued on 9 December
asking for views on which energy efficient products and technologies
might qualify for the enhanced allowances.
11. Views are also being sought on the Government's detailed
proposals for using the energy efficiency fund announced in Budget
99, which is intended to:
provide energy efficiency advice/audits to non-domestic
energy users, especially small and medium sized enterprises;
promote the development of "new" sources
of renewable energy; and
encourage the research and development and take
up of low carbon technologies and energy saving measures through
a "Carbon Trust".
Final decisions on the use of the energy efficiency fund
will be made in the spending review 2000. The aim will be to provide
a fully integrated and coordinated package of measures to facilitate
both technological innovation and the diffusion of new technologies
in the business community, building on existing programmes like
the Energy Efficiency Best Practice Programme (EEBPP).
12. The Government recognises the case for giving special
consideration to the treatment of energy intensive sectors given
their high energy costs and their exposure to international competition.
13. The basis for determining eligibility for special
consideration will remain sites in those sectors covered by the
EU's Integrated Pollution and Prevention Control (IPPC) Directive.
These installations will be subject to a regulatory requirement,
in terms of having to operate in an energy efficient manner, that
other non-IPPC sites are not subject to. This definition covers
the main energy intensive sectors exposed to international competition
and the majority of energy use in the manufacturing sector. This
definition also provides the legal certainty required for determining
who is, and is not, eligible to enter into negotiated agreements.
The Government has indicated that small sites in sectors covered
by the IPPC Directive, but which fall beneath the Directive's
size threshold, will be eligible to be covered by a negotiated
14. The Government remains willing to consider suggestions
for alternative definitions which would target the relief on energy
intensive sectors exposed to international competition. But any
alternative definition would have to have a clear rationale, provide
legal certainty, administrative simplicity and be consistent with
EU State Aids rules. The Government does not intend to extend
eligibility to all firms, since that would involve offering lower
rates of the levy to firms who are already net gainers from the
15. Participants in eligible sectors who enter into climate
change levy agreements to achieve demanding energy/CO2 savings
targets and who meet the terms of those agreements will qualify
for an 80 per cent discount from the levy rates.
16. The Department of the Environment, Transport and
the Regions (DETR) is leading the discussions with the main energy
intensive sectors, which have been underway since spring 1999.
Considerable progress has been made. On 20 December, sector representatives
signed Memoranda of Understanding with DETR on energy efficiency
targets for their sectors. Smaller trade associations, taking
part in a series of "second wave" discussions, are expected
to sign Heads of Agreement in the coming months.
17. From the outset, the Government has made it clear
that it wishes to maximise the environmental benefits of the climate
change levy. Subject to legal and practical considerations, the
Government intends to exempt electricity generated from renewable
sources of energy (other than large scale hydro plant) from the
levy. Electricity suppliers will be able to provide electricity
to businesses without incurring the levy up to the total amount
of any contracts they have with eligible generators of renewable
18. The Government recognises the environmental benefits
that the additional energy efficiency of combined heat and power
(CHP) plant can offer. It therefore proposes to exempt electricity
generated in "good quality" CHP plant from the levy.
Guidelines on the definition of what constitutes "good quality"
CHP have been published by HM Customs and Excise.
19. In designing the levy the Government has taken into
account its wider policy objectives, including the promotion of
rail-freight transport. The Government therefore intends to exempt
the traction electricity used by rail-freight locomotives from
20. The Government recognises that in some cases energy
products are used for non-energy purposes and the amount used
is determined by the nature of the process. With this in mind,
the Government intends to exempt from the levy those energy products
which serve a dual purpose as a fuel and as a feedstock within
the same process. The Government also intends to extend the electrolysis
exemption announced in July to cover electricity used in electrolytic
processes similar to chlor-alkali production and primary aluminium
21. The levy packageincluding additional support
for energy saving measures and environmental exemptions for "new"
renewables and "good quality" CHPis projected
to save the equivalent of at least two million tonnes of
carbon (MtC) a year by 2010, compared to the 1.5 million tonnes
associated with the proposal outlined in Budget 99.
22. There are three inter-related factors which explain
this change in the expected carbon savings from the levy package:
The lower rates of levy mean that the pure price
effect of the levy is now estimated to be smaller than associated
with the illustrative levy rates published at Budget time;
However, the exemptions for electricity generated
from "new" renewables and "good quality" CHP
plants will increase the environmental effectiveness of the levy
by encourage switching to more efficient and less polluting forms
of electricity generation;
And the additional support for energy efficiency
measures should help stimulate investment in new processes and
technologies, thereby generating additional carbon savings.
23. It is not possible to give a precise breakdown of
the carbon savings arising from the different elements of the
levy package. In part, this reflects the difficulties in estimating
the response of firms to the incentives provided by the levy package,
and the fact that some of the detailed design issues, such as
which technologies might qualify for the enhanced capital allowances,
have yet to be resolved.
24. It also reflects the difficulties in separating out
the effects of different elements of the levy package. For example,
incentives for the take-up of CHP generation could arise through
the exemption from the levy itself and the enhanced capital allowances
(if investments in CHP form part of the eventual list of qualifying
technologies). Separating out these effects is extremely difficult
and, where possible, conservative estimates are used to avoid
"double counting" of the carbon savings.
25. A very rough indication of the possible magnitudes
involved is shown in the table below. The figures are shown for
illustrative purposes only. All the estimates are subject to wide
margins of error and undue weight should not be placed on them.
|Element of levy package||Estimated Carbon Savings (MtC) per annum by 2010
|Price effect of levy1||>1
|Total3 (excluding negotiated agreements)
1 Based on estimates from the DTI Energy Model.
2 Based on DETR estimates for forthcoming climate change programme.
3 It is not possible to provide a detailed estimate for the CO2
savings arising from the energy efficiency measures under the
levy package at this stage since the details of these measures
are still out to consultation and have yet to be finalised.
26. The levy's negotiated agreements with energy intensive
sectors are expected to deliver over two million tonnes of carbon
in addition to the carbon savings arising from the levy described
above. This estimate is based on comparing the target offers sectors
have signed up with the "Business-as-Usual" projections
for 2010 estimated by the energy Technology Support Unit. Further
details of the targets for each sector will be made available
once the Heads of Agreement have been signed.
27. Together, the carbon savings arising from the levy
package and the negotiated agreemments with energy intensive sectors
will make very significant contribution to meeting the UK's legally
binding target for reducing greenhouse gas emissions set under
the Kyoto Protocol and moving beyond that towards the Government's
domestic goal of a 20 per cent cut in carbon dioxide emissions
28. In his November 1998 report, Economic instruments
and the business use of energy, Lord Marshall urged the Government
to "step up its consultations with interested parties to
resolve the complex issues involved in designing trading scheme".
Following on from this report and subsequent discussions led by
the CBI and ACBE, and Emissions Trading Group (ETG) was established
to take the work forward.
29. The ETG, which now includes around 40 major firms
and trade associations, presented their proposals for a UK emissions
trading system to the Government on 27 October. The Government
has been encouraged by the positive way that the ETG has developed
principles for an emissions trading scheme and is considering
its proposals in detail.
30. The Government believes that emissions trading has
a key role to play in the long-term solution to reducing greenhouse
gas emissions. A domestic trading scheme would complement other
climate measures in the business sector by offering cost-effective
and flexible options for achieving emissions reductions. It will
also open the way to international trading opportunities and will
enhance UK expertise in this field.
31. In designing the climate change levy's negotiated
agreements for intensive energy users, the Government will seek
to facilitate emissions trading between those firms covered by
an agreement. The Government shares businesses' aim of having
a UK emissions trading scheme operational as soon as possible
and will be looking at further ways to encourage participation
in a domestic scheme.