Many Asia-Pacific (APAC) companies will be impacted by the recently approved Carbon Border Adjustment Mechanism (CBAM) legislation in the EU. Tax functions need to grapple with, and plan for, the challenges the CBAM will create, while also identifying the opportunities it presents.
The CBAM in brief
The main points to note regarding the CBAM and its potential impact on the APAC region are as follows:
Key legislative elements of the Fit for 55 package have been approved in the EU;
The CBAM can act as a catalyst for supply chain and restructuring initiatives and is an opportunity to review operating model efficiencies and drive sustainable growth;
The impacts of the CBAM are wide ranging and will affect many APAC-based companies, including those with operations in the EU and manufacturers and exporters of goods into the EU;
APAC-based companies need to assess which of their exports into the EU will be subject to reporting/compliance obligations under the CBAM;
APAC-based companies should determine the ownership and role of tax in the CBAM process;
It is crucial for APAC-based tax leaders to be on top of these new requirements and adapt their strategies accordingly as soon as possible; and
Some countries, such as Australia, are also considering implementing a carbon border adjustment mechanism and it is important for tax leaders to stay informed and keep up to date with new reporting regimes.
The introduction of the CBAM by the EU is further evidence of decarbonisation commitments by governing bodies, but are companies prepared to take what could be seen as supply chain barriers and reshape them into building blocks that support their own carbon ambitions?
The CBAM is more than a regulatory policy measure. Intended by the EU to address carbon leakage, it will be a policy that blends aspects of tax and customs duties, so it is intrinsically connected to the customs function. Many companies may find themselves not fully equipped for the policy requirements. The data and processes for compliance could create a significant amount of work. For already overworked departments, identifying ownership of the CBAM could be a challenge.
Tax departments should take the opportunity to support these efforts by centralising and controlling the large amounts of data points and flows required to effectively manage the risk of non-compliance where these processes are otherwise decentralised and responsibilities are shared over different parts of the business.
A quick recap of the CBAM
In April 2023, the European Parliament approved key elements of the Fit for 55 legislative package:
The EU Emissions Trading System (EU ETS) reform; and
The new EU CBAM.
Affected companies need to understand the new requirements and upcoming reporting obligations. The EU's Fit for 55 legislative package, initially announced in July 2021, is viewed as a critical enabler for helping Europe to reduce emissions by at least 55% by 2030 (from 1990 levels).
The CBAM took effect in October 2023. Until the end of 2025, EU importers will be subject to CBAM reporting requirements. The CBAM will become fully operational in 2026, which signifies the start of purchasing and surrendering equivalent CBAM emissions allowances for all in-scope imports.
The scope of the CBAM will initially cover specific products in some of the most carbon-intensive sectors – iron and steel, cement, fertilisers, aluminium, electricity, and hydrogen, as well as indirect emissions from heat and electricity used in the production of these products. Companies outside these industries may also need to pay attention as the scope also includes emissions from precursors and a limited number of downstream products in these product categories, such as screws in electronics, tanks, cans and drums for packaging/transport, or aluminium foil. It is anticipated that the EU will gradually widen the scope of the CBAM to cover other products related to activities subject to the EU ETS, such as industrial chemicals and polymers.
The CBAM's main objective is to reduce carbon leakage, whereby industries shift production to countries with less stringent climate policies, undermining global emissions reduction efforts. The goods captured in the CBAM's scope are identified based on the Harmonized System for Tariff Classification, a standardised global framework for categorising traded goods, and are correlated with what EU importers would have paid under the EU ETS. The CBAM incentivises the EU's global trading partners to decarbonise their heavy-emitting sectors – an opportunity for the tax department to drive change.
CBAM governance
One of the primary hurdles companies face is determining who should own the CBAM process. Tax departments are often hesitant to take on this responsibility, as the CBAM is a regulatory measure rather than a tax. The governance of the CBAM often falls to departments such as procurement or supply chain or sustainability functions. This lack of clarity creates a void where departments are slow to assume accountability, leading to potential inefficiencies.
Tax may not be the driving force behind the CBAM, but it can contribute significant input and value into the process. This can include centralising the reporting and compliance requirements, and considering potential transfer pricing implications.
CBAM impacts in APAC
Engaging with companies reveals varying perspectives on the CBAM and restructuring initiatives. The scope of the CBAM extends to APAC companies with operations in Europe and, importantly, to APAC manufacturers and exporters of goods into the EU, necessitating comprehensive additional reporting. Furthermore, as the CBAM is levied on the emissions occurring from manufacturing outside the EU when those goods are moving into the EU, it will impact the competitiveness of APAC exporters. If they want to stay competitive, APAC companies need to decarbonise quickly, but many remain unaware of these operational implications.
The impact of the CBAM on APAC countries will vary depending on their trade patterns and local carbon pricing policies. Countries that export carbon-intensive goods to the EU will be the most affected, leading to concerns and criticism from trading partners (for example, China in APAC, but also South Africa, Brazil, and India) that view the CBAM as a discriminatory trade barrier and one that could face a challenge by the World Trade Organization.
The EU experience offers valuable lessons as APAC countries look to implement CBAM-like policies. Australia has announced its own detailed policy analysis on implementing a carbon border adjustment mechanism. The Australian review will likely focus on:
Finding the appropriate balance between its national net-zero ambitions;
Its trading relationships;
Consistency with international trade rules; and
Possible interoperability with other CBAM schemes.
As more countries seek to implement measures, it is crucial for tax leaders to stay informed and adapt their strategies accordingly. Given that the EU’s CBAM provides credits for home country carbon pricing, successful strategies may include the establishment of carbon pricing systems. With the rise of carbon pricing in more and more countries – by way of emission trading systems, carbon taxes, and carbon border adjustment mechanisms – the pressure to decarbonise increases as regulatory costs from carbon pricing will severely impact the competitive position of emission-heavy products.
Reporting readiness
Preparing for the CBAM reporting is a crucial task that companies should undertake now. The transitional phase commenced on October 1 2023 with the first reporting deadline at the end of January 2024. CBAM-responsible business functions need to identify relevant data elements and their location within systems. Assessing data quality, availability, and extraction methods are key components of ensuring an efficient reporting process.
While the data items for CBAM reporting are typically straightforward – for example, emissions data, carbon price paid in a third country, commodity codes – gaps may exist. In cases where data gaps exist or certain data elements are unavailable, companies should establish robust processes to involve suppliers and other necessary stakeholders.
Implementation challenges can vary widely based on:
A company's portfolio of CBAM-impacted products;
Data availability and quality; and
The customs import structure.
The process can be relatively straightforward for companies with centralised ERP systems and robust data quality. However, the designated CBAM-responsible leaders should assess their company's circumstances – considering factors such as the number of ERP systems, data scattering, and data accessibility – to tailor their CBAM implementation strategies accordingly.
Collaboration and competition
Navigating the EU’s CBAM successfully will require collaboration among various departments within a company. The designated CBAM-responsible leaders – including potentially being spearheaded by the tax department, which is often responsible for customs – should take the lead in coordinating efforts and fostering cross-functional data sharing and collaboration. Having an effective CBAM data collation and reporting technology solution may provide companies with a greater degree of efficiency in – and assurance on the quality of – their CBAM reporting.
Addressing tax considerations maintains compliance and increases efficiency in the new operational framework. The CBAM can be an opportunity for the final push needed to improve operations, eliminate inefficiencies, and streamline compliance in a decarbonising world. While percentages vary among companies, the CBAM could be the decisive factor for accelerating these changes.
Considering these operational changes, the CBAM may be a catalyst for legal entity simplification. Furthermore, to accelerate decarbonisation efforts (while managing CBAM costs), businesses may look to reimagine supply chains toward less emission-intensive products or processes. This may involve changing product components, suppliers, or supply routes. Tax departments must play a role in restructuring discussions, considering tax implications arising from function reallocation and entity realignment, especially for companies with a large CBAM impact.
The CBAM should not be seen as merely a compliance burden but should be viewed as a structure that incentivises companies to reduce their carbon footprint proactively. By leveraging the CBAM to shape their strategies, APAC-based business leaders can guide their companies towards a sustainable future, capitalising on market differentiators and positively influencing the environment.
APAC tax departments can guide the company through the CBAM landscape by staying vigilant for global developments as other countries, like Australia, contemplate similar policies. APAC tax leaders, together with the CBAM-responsible functions, can maintain compliance, enhance operations, and drive sustainable growth by focusing on reporting readiness and collaboration and positioning their companies for success in the CBAM era, while driving meaningful global change in their supply chains.
The views reflected in this article are the views of the author and do not necessarily reflect the views of the global EY organisation or its member firms.
