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The Carbon Tax Checklist

Many stakeholders have called for the United States to adopt a carbon tax. Such a tax could raise billions of dollars in annual revenue while simultaneously reducing greenhouse gas emissions. Several carbon tax proposals were introduced in the last Congress (2019-2020 term), and it is likely that several more will be introduced in the new Congress. Several conservative economists have endorsed the idea, as has Janet Yellen, President Biden’s Secretary of the Treasury. But the details of a carbon tax matter—for revenue generation, emissions reductions and fairness. Because Congress is likely to consider several competing carbon tax proposals this year, this article provides a way to compare proposals with a checklist of 10 questions to ask about any specific legislative carbon tax proposal, to help understand that proposal’s design and implications.

1. What form does the tax take: Is it an emissions tax, a fuel tax or a production tax?

The point of a carbon tax is to reduce greenhouse gas emissions by imposing a price on those emissions. But there is more than one way to impose that price. Critically, the range of options depends, to a very large degree, on the type of greenhouse gas the tax is trying to address.

The most ubiquitous greenhouse gas is carbon dioxide (CO2) and the largest source of CO2 emissions is the combustion of fossil fuels. Those emissions can be addressed by imposing a fee on each individual emission source or by taxing the carbon content of the fuel—because carbon content is a reliable predictor of CO2 emissions across different combustion circumstances. Most carbon tax proposals are fuel tax proposals; they impose a tax on fuel sales, corresponding to the amount of CO2 that will be emitted when the fuel is burned.

For CO2 emissions, the fuel tax approach has one significant advantage over the emissions fee approach. The fuel tax can be imposed “upstream,” rather than “downstream,” thereby reducing the total number of taxpayers and the overall administrative burdens associated with collecting the tax. A tax imposed on petroleum products as they leave the refinery, for example, is a way to address CO2 emissions from motor vehicles without the need to tax every individual owner of a gasoline-powered car. Most CO2-related carbon tax proposals work that way—they are upstream fuel taxes rather than downstream emissions taxes.

But not all greenhouse gas emissions can be addressed through a fuel tax, because not all greenhouse gas emissions come from fossil fuel combustion. Methane, for example, is released in significant quantities from cows, coal mines and natural gas production systems. A carbon tax directed at those emissions is likely to take the form of an emissions fee imposed on the owner or operator of the emission source. Many carbon tax proposals, however, simply ignore methane emissions or expressly exempt agricultural sources.

Fluorinated gases are yet another type of greenhouse. If they are subjected to a carbon tax, that tax is likely to take the form of a production tax, which would be imposed [...]

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Senate Finance Committee Holds Hearing on Energy Tax Reform

Tax reform has been a hot topic as of late, particularly for the energy sector.  On September 17, 2014, the Senate Finance Committee continued the focus on energy tax reform by holding a hearing on “Reforming America’s Outdated Energy Tax Code.”  The hearing followed a trio of major proposals released this past year to revise the Internal Revenue Code’s energy tax provisions.  Last December, former Senate Finance Committee Chairman Max Baucus (D-MT) released a discussion draft proposal to streamline energy tax incentives to make them more predictable and technology-neutral.  The proposal consolidates the various tax incentives for clean electricity into a single production tax credit (PTC) or an investment tax credit for all types of power generation facilities that are placed into service after December 31, 2016. In February, House Ways and Means Committee Chairman Dave Camp (R-MI) released a discussion draft of the Tax Reform Act of 2014, which sets forth a broad framework for general tax reform, including the phase out and repeal of many energy-related tax credits such as the PTC.  And in March, the President released his fiscal year 2015 budget proposal, which contained energy-related tax provisions such as a permanent extension of the PTC and a provision making the PTC refundable thereby allowing taxpayers without current taxable income to take advantage of the credit.  A detailed review and comparison of these three proposals can be found here

The September hearing on energy tax reform included industry representatives and academic experts as witnesses.  At the beginning of the hearing, Committee Chairman Senator Ron Wyden (D-OR) articulated three principles that he views are important in moving energy tax reform forward.  First, “the tax code must take the costs and benefits of energy sources into account.”  This would include factors “such as efficiency, affordability, pollution, and sustainability.”  Second, he advocates replacing “today’s quilt of more than 40 energy tax incentives with a modern, technology-neutral approach.”  Third, “the disparity in how the tax code treats energy sources – and the uncertainty it causes – has to end.”

During the course of the hearing, several topics were addressed.  A central focus of the hearing centered on achieving “parity” between fossil fuels and renewable fuels through a technology neutral tax structure.  The witnesses debated over various ways to achieve such parity, including the proposal to eliminate expensing for drilling intangible costs.  Other topics addressed by the witness panel included how to encourage technology advancements in the transmission and storage of energy, allowing renewable energy production to be financed through master limited partnerships, and the carbon tax.

At the end of the hearing, Wyden again reiterated his focus for energy tax reform: a technology-neutral approach focused on performance not fuel type.  Although it is unlikely that any broad tax reform will be accomplished in the near future, it appears that there is continued interest in structuring the energy tax provisions in a way that is technology neutral and that achieves parity between fossil and renewable fuels.

A [...]

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