OPIS Insights

CARB has entered into an important phase of its rulemaking process for California’s C&I program. The board on Jan. 13 released an Initial Statement of Reasons (ISOR), a 356-page document outlining the agency’s rationale for a comprehensive package of regulatory amendments that would govern the program through 2045. The ISOR lays out CARB’s vision for how C&I should function over the coming decades, how the market is expected to behave as emissions decline, and what design priorities will be used to balance long-term decarbonization, consumer affordability and market stability.

This rulemaking marks a fundamental reset of the program as CARB looks to realign C&I more closely with California’s statutory climate targets by tightening the cap, updating compliance timing, revising allocation rules and enhancing market oversight, all while managing political sensitivities surrounding affordability and price volatility.

Once the Office of Administrative Law (OAL) posts the full rulemaking package, a 45-day public comment period will begin. CARB staff will then review comments, prepare responses and propose any revisions before  a planned May 28 hearing.  If the board adopts the amendments, CARB will finalize the regulatory language and submit it to OAL for legal review. Once OAL approval is secured, the regulation will be filed with the Secretary of State and become law. CARB aims to complete the process in time for the changes to apply beginning with the 2027 vintage year.

Legislative and Policy Background

CARB’s proposal builds on the 2022 Scoping Plan update, which outlined a cost-effective and technologically feasible path to carbon neutrality by 2045, including an 85% reduction in GHG emissions from 1990 levels. This target was later codified through legislation, including AB 1279 and SB 905, which formally established the 2045 neutrality goal and elevated the role of carbon dioxide removal.

The  Legislature last year passed AB 1207 and SB 840, reshaping the structure and objectives of the C&I program. AB 1207 requires integration of offsets into the cap, adjustments to allocation and cost containment mechanisms and prioritization of direct emissions reductions within California. SB 840 places new constraints on how auction revenue may be used, refining the program’s role as a public investment mechanism and narrowing the parameters for long-term spending.

Within this statutory context, the ISOR presents C&I as a primary implementation mechanism. It is framed as a tool for delivering a consistent price signal and regulatory certainty while offering compliance flexibility. In the text, CARB positioned C&I as a foundational element of California’s long-term climate architecture, working in tandem with sector-specific regulations and public investment strategies. Affordability was mentioned repeatedly, representing the delicate balance CARB is attempting to strike between maintaining an active and credible market, protecting environmental integrity and keeping prices affordable, particularly in light of the Legislature’s extensive discussions on these issues last summer.

Allowance Budgets and Structural Realignment

The ISOR’s centerpiece is the restructuring of allowance budgets. CARB proposed removing about 118 million allowances from 2027 to 2030, a step tied to updated GHG inventory data and intended to maintain alignment with California’s 2030 target. An additional 146 million allowances would be removed from post-2030 budgets. Beyond these adjustments, CARB proposed removing 753 million allowances from the 2031-2045 period relative to existing regulations, marking a structural re-scaling of the post-2030 market. The trajectory of allowances is now lower than what would have occurred under current rules. CARB maintains that total allowances through 2045 remain consistent with scenarios previously analyzed in the Supporting Regulatory Impact Analysis. The agency is attempting to demonstrate continuity in analytical methodology, while converting earlier modeling assumptions into enforceable regulatory form.

Redefining Offset Use and Cap Integrity

The ISOR proposed a mechanism to integrate offset use into the allowance cap, as required under AB 1207. Beginning in 2028, CARB proposes a 6% allowance deduction associated with offset usage. These allowances would be placed in a removal account. At the end of each compliance period, CARB would retire allowances equivalent to actual offset use, returning any surplus over time. In this structure, offsets would no longer be used to soften the cap and would instead  be used  to tighten future supply. While offsets remain a compliance tool, they now have structural consequences for cap integrity and future allowance availability.

Two important statutory deadlines govern near-term offset politics. By Dec. 31, 2026, CARB must report on offset usage, assess in-state environmental benefits and recommend how to scale in-state offset supply. By January 2029, offset protocols must be updated using best available science.

Stakeholders have pointed out that the ISOR does not appear to transform which offset types are most prevalent or how they function within the system. Significant reforms are expected to arise instead through the statutory report and protocol update process in the future.

Compliance Period Adjustments

CARB proposed moving from a rolling three-year compliance cycle to a sequence alternating between two- and three-year periods. This change is designed to ensure that milestone years (particularly 2030) conclude a full compliance cycle. California and Quebec jointly issue Net Flow Calculation Reports at the end of each cycle to assess compliance instrument transfers, target achievement and aligning milestone years with cycle endpoints helps to ensure consistent assessments between jurisdictions. However, the shift would create misalignment with Washington’s four-year compliance periods, which would need to be addressed in future linkage conversations.

Cost Containment & Market Design

CARB proposed to retain both the Allowance Price Containment Reserve (APCR) and the price ceiling, while refining their functionality to maintain orderly markets under conditions of tightening supply. Cost containment tools are framed as volatility management mechanisms, rather than instruments to keep prices low. CARB acknowledged that higher prices are a plausible and even necessary outcome of a more ambitious trajectory and the reserve is designed to smooth disorderly spikes rather than suppress legitimate price growth.

Some stakeholders have argued that California’s market behavior has historically been driven more by cap stringency than by containment mechanics. In loose markets, the price floor becomes disproportionately important, and in tight markets, ceiling levels take on political and economic significance. Washington’s higher prices, attributed to stricter cap design, are increasingly cited as a point of comparison. Some have argued that increasing California’s price floor could stabilize revenue and strengthen the price signal, but political considerations (particularly linkage with Quebec) may limit the agency’s ability to  adopt these types of reforms.

Allocation Reform and Industrial Assistance

The ISOR includes several changes in how free allowances are distributed to industry and utilities. CARB maintains the Cap Adjustment Factor and industrial assistance factors through 2035. This decision postpones the phase-down of free allocation and is framed as a measure to prevent emissions leakage and support affordability. CARB also proposes new incentives to reduce compliance obligations for facilities undertaking onsite decarbonization. While presented as a complement to existing assistance, critics argue that these incentives could create overlapping subsidies without clear targeting. Some view this as an inefficient use of allowances, particularly when industry already receives allocation up to the cap.

There is also a notable institutional shift, with CARB assuming greater authority over electricity-related assistance, taking  some administrative responsibility from the Public Utilities Commission. Concerns about transparency also persist. Allocation mechanisms that rely on free allowances lack the visibility of grant-based funding and without  public tracking of outcomes, it becomes difficult to assess the effectiveness or public value of the assistance provided.

Utility Credit Adjustments and Revenue Reallocation

Several changes have also been proposed in climate credit distribution and utility allocations. CARB wants to phase out the natural gas climate credit beginning in 2029. The credit would begin at 20% and decline by 10% annually, with the resulting value shifting to electric utilities. CARB proposes to remove the prohibition on usage-based distribution for electric credits, potentially enabling more progressive outcomes. Final design decisions are expected to fall under the jurisdiction of the CPUC. The ISOR also would prohibit spending natural gas credit funds on voluntary credits, RNG and combustion-related uses. This change is viewed  as a step toward clarifying the distinction between compliance markets and voluntary programs. An increase in the overall credit is proposed to reflect rising electricity demand, including load growth from data centers and renewable procurement mandates.

Stakeholder Feedback 

Criticism on the ISOR has focused on environmental justice outcomes, revenue structure and technical design. Some question whether reliance on expected co-benefits between GHG reductions and air quality improvements sufficiently addresses facility level pollution in overburdened communities or whether alternative regulatory approaches were fully considered. Others note that the effectiveness of mitigation measures, including climate credits and programs funded through the Greenhouse Gas Reduction Fund (GGRF), depends on the reliability of future auction revenues.

Under SB 840, GGRF revenues are generated from allowances remaining after free allocation to covered entities, making funding levels sensitive to allocation design, offset use and allowance prices. Some stakeholders suggest that expanded allocation pathways and conservative price assumptions could limit revenues in later compliance periods, while others note that revenue outcomes reflect cap stringency and market conditions.

Environmental advocates have called for clearer boundaries to avoid program misalignment, double counting or weakened climate integrity. Some also note that grant-based investments may provide greater transparency and public accountability than assistance delivered through free allowances. Broader critiques address program design choices, including continued free allocation for some industrial sectors, the analytical basis for affordability claims and the balance between price stability, emissions reductions and revenue generation.

Next Steps

CARB’s 45-day public comment period will close in mid-May, after which staff will prepare responses and finalize proposed revisions in advance of the May 28 Board hearing. If the package is adopted, it will move to the Office of Administrative Law (OAL) for formal review—a process that may extend into late summer. Should CARB trigger a 15-day re-comment period, final approval could be delayed until early fall. Most stakeholders are anticipating final rule adoption by mid-to-late summer.

This rulemaking is under heightened scrutiny due to its implications for future linkage with Washington State. The finalization of California’s and Quebec’s regulatory amendments is widely seen as a necessary step before Washington can initiate its own rulemaking, likely in late 2026 or early 2027. However, full fungibility of allowances and offsets across jurisdictions remains unlikely. Differences in compliance cycles, allocation design, cost containment mechanisms and offset protocols continue to pose these structural barriers. As a result, linkage may unfold through a phased or conditional approach, rather than the seamless integration achieved between California and Quebec.

The ISOR reinforces CARB’s commitment to maintaining a strong and adaptive C&I program aligned with California’s long term climate goals. It introduces a tighter emissions cap, integrates offsets under the cap, restructures compliance periods, expands market oversight and revises allocation rules. The ISOR provides long-awaited clarity for market participants and showcases a deliberate effort to ensure the program is responsive to evolving conditions, and legislative and stakeholder requests. While some questions remain around implementation details, this rulemaking piece is meaningful progress towards ensuring the program remains ambitious, transparent, and capable of supporting sustained emissions reductions and investment in California.