Are we ready for Carbon trading?

It has been predicted that there will be no snow on Mt Kilimanjaro by 2020 and no ice at the North Pole by
2080, and many scientists attribute the increase to the unpredictability and extremes of weather, from
hurricanes to droughts, to global warming.
Carbon dioxide, the key greenhouse gas produced by the combustion of fuels, has become a cause of
global concern as its concentration in the earth's atmosphere has been rising alarmingly and is held to be
the main culprit in the current global warming.
This gas, however, is now turning into a product that may help people, countries, and corporations make
money especially in the developing world. Internationally, carbon credit trading has become a norm
providing incentive to companies or countries that emit less carbon. Developing countries are likely to be
the biggest sellers and Europe is going to be the biggest buyers of carbon credits. It is estimated that the
global carbon credit trading market is over US $5 billion. This trading opportunity was unimaginable not
more than ten years ago.
What exactly is a carbon credit one may ask?
A couple of decades ago debate started on how to reduce the emission of harmful gases that contribute
to the greenhouse effect that causes global warming. So, countries came together and signed an
agreement named the Kyoto Protocol which created a mechanism under which countries that had been
emitting more carbon and other gases voluntarily decided that they would bring down the level of carbon
they were emitting to the levels of the early 1990s. Developed countries decided on different norms to
reduce the level of emission fixed for their companies and factories.
A company has two options to reduce emissions. It can reduce the greenhouse gases (GHG) by adopting
new technology or improve upon the existing technology to attain the new norms for the emission of
gases. Alternatively, it can liaise with developing nations and help them set up new technology that is
eco-friendly, thereby helping a developing country or its companies 'earn' credits.
The carbon credits trading system involves the issue of carbon credits to the government of the country in
which the reforestation or growing of other plants takes place, and these can then be sold on the carbon
trading markets that currently exist in many of the financial centres of the world.
Countries in Africa, Asia and South America have an advantage because they are developing countries.
Any company, factories or farm owner in such countries can get linked to United Nations Framework
Convention on Climate Change (UNFCCC) and know the standard level of carbon emission allowed for
its outfit or activity. In a developing country, one gets credited to the extent to which one is emitting less
carbon as per the standards fixed by UNFCCC. This is what we refer to as carbon credit. These credits
are bought by the companies of developed countries -mostly Europeans as the United States has not
signed the Kyoto Protocol.

In Kenya the business of personal carbon trading is just breaking ground. Companies have been or are
being set up to promote projects that reward small farmers in various part of the country for planting trees,
and using more energy efficient stoves ( jikos) for cooking.
A personal carbon emission trading set up offers a financial inducement to farmers and other individuals
to get them involved in the project. The farmers involved in the project are allowed to emit only a certain
amount of carbon dioxide, measured according to pre-agreed scale. If they cut their emissions to below
the set limit, then the reduction is calculated in monetary terms, and they are paid for it. Thus, through the
financial incentive to operate below the limit, and the use of fuel efficient jikos, farmers plant more trees
than they can cut down, thereby aiding the fight against deforestation, and reducing the carbon dioxide
emissions blamed for global warming. The set carbon trading set ups sell the carbon credits thus created
to non-resident companies in the developed countries.
While a carbon trading exchange (The Africa Carbon Exchange ) was recently launched in Kenya , being
a new concept in Kenya there are a number of uncertainties involving carbon credits and trading. The
Kenyan legal system does not set out the legal nature of carbon credits nor is there any specific tax
legislation. Thus there is uncertainty whether carbon credits are financial instruments or physical goods
and how title is transferred following a sale agreement. From a tax perspective, whether the income
derived from their trading should be taxed or be exempted and if VAT applies is unclear. The Ministry of
Finance has indicated that they have developed a policy to regulate the trade in carbon credits. However,
the policy has not yet been adopted, pending input from private sector players.
There is also a need for the formation of a protective structure to prevent exploitation and ensure that
people and farmers (most of whom are likely to be poorly educated) involved know and fully understand
the implications of such schemes and projects which are long term in nature. It is not just a case of
getting new jikos and money in the short terms but involves the full commitment of the individuals to long
term conservation of land and reforestation.
Commercial activity in the area of carbon credits is increasing rapidly and the natural consequence of this
development is for the law to also develop and catch up. Representations have been made to the
government by interested parties. How quickly appropriate legislation and regulatory frameworks on
carbon trading is set up and whether we shall see anything in the upcoming Budget next month remains
to be seen.

This article was written by Ilyas Khan who is a Senior Tax Manager, Deloitte Kenya.
The views expressed in this article are the authors and not necessarily those of Deloitte Kenya.