Commission’s ‘Fit for 55’ climate package proposes removing European aviation’s fuel tax exemption

The EU’s ‘Fit for 55’ legislative package of proposals unveiled by European Commission President Ursula von der Leyen is likely to have long-term consequences for the aviation sector. Parts of the package have already been widely flagged, such as the introduction of an incremental blending mandate for sustainable aviation fuels and tightening of EU Emissions Trading System (EU ETS) provisions for intra-European flights. However, a proposal to remove the tax exemption on aviation fuel could have a major impact on the sector. The Commission is proposing a kerosene tax based on energy content be introduced linearly over a transitional period of 10 years from 2023, corresponding to minimum tax rates applicable to road transport fuels. Because of existing agreements with countries like the United States, the tax would not be applied to cargo-only intra-EU flights and a zero rate would be applied to aviation advanced biofuels and e-fuels for a limited period to allow production scale up. Airline industry body IATA said a reliance on taxation to cut Europe’s aviation emissions would be counter-productive to the goal of sustainable aviation.

The ‘Fit for 55’ package is a response to the increased level of ambition, enshrined in a new EU climate law, that sees the previous target of reducing CO2 emissions by 40% by 2030 compared to 1990 levels being raised to 55%.

Unveiling what she described as a roadmap of legislative tools to achieving the new target and becoming the first climate-neutral continent in the world, von der Leyen said the current fossil fuel economy had reached its limits and needed to be replaced with a new model powered by clean energy. Carbon pricing would be the guiding and market-based instrument “with a social compensation,” she told a media briefing. “Emissions of CO2 must have a price that incentivises consumers, producers and innovators to choose clean technologies,” she said. “And we know that carbon pricing works. Our existing ETS has already helped significantly to reduce emissions in industry and in power generation.”

Under new proposals, the EU ETS will be extended to include shipping emissions for the first time and a separate new ETS set up for road transport and buildings. The Commission is also proposing to phase out free emission allowances for aviation and amend the EU ETS to align with the global ICAO CORSIA offsetting scheme.

In 2018, EU CO2 emissions from aviation made up 3.7% of the economy-wide total or 15.7% of CO2 transport emissions. The EU was responsible that year for 15% of global aviation emissions – with intra-EEA aviation representing 7.5% and departing flights to third countries another 7.5%. The Commission points out that departing flights are covered in the EU’s NDC under the Paris Agreement. Despite the fall in traffic caused by Covid-19, under the baseline scenario CO2 emissions from aviation are still forecast to increase by 24% by 2030 and by a further 27% by 2050 compared to 2005 levels.

EU ETS and CORSIA

In its proposed revision to the Aviation EU ETS directive, the Commission says in order to reach the increased climate target, “all sectors, including aviation, must adequately contribute to the required domestic emission reduction efforts.” Beyond the 2030 target, it quotes a previous communication that states: “In accordance with its international commitment to economy-wide action under the Paris Agreement, the EU should continue to regulate at least intra-EU aviation emissions in the EU ETS.”

Between 2013 and 2020, the Commission estimates net savings of 193.4 Mt CO2 were achieved by aviation through the EU ETS, although aviation CO2 emissions under the EU ETS decreased in 2020 by 64% compared to 2019, due to the pandemic. However, it says, the enhanced 2030 climate ambition requires the contribution from sector to be “significantly strengthened” and revisions to the EU ETS rules must be addressed.

The main legal amendments to the directive proposed are to:

• Consolidate the total quantity of aviation allowances at current levels and apply the linear reduction factor in accordance with Article 9 of the directive;
• Increase auctioning of aviation allowances;
• Continue intra-European application of the EU ETS while applying CORSIA as appropriate to extra-European flights; and
• Ensure that airlines are treated equally on the same routes with regard to their obligations with economic impacts.

In parallel to these amendments, and as a result of aviation emissions likely to not exceed their collective 2019 levels (the baseline year for CORSIA) in 2021 (the first year of CORSIA) due to the pandemic, a separate proposal is being made to implement Member States’ notification to EU-based airlines of zero CORSIA offsetting for the year 2021 “in a manner that minimises the administrative burden of national authorities and airline operators, and provides legal certainty as regards CORSIA offsetting by airlines based in Member States.”

Aviation fuel tax

However, says the Commission in its proposed revisions to the Energy Taxation Directive (ETD), the existing market-based instruments for aviation –the EU ETS and CORSIA – only partially internalise climate externalities. For intra-EEA flights, the climate change impacts are currently not fully internalised through the EU ETS as a significant proportion (44% in 2019) of total verified emissions are allocated for free to aircraft operators, although this is being reassessed in the proposed EU ETS directive revisions.

“As for extra-EEA flights, the price signal provided by CORSIA clearly falls below the EU ETS carbon price and would only marginally reflect the climate external costs generated by extra-EEA flights,” says the Commission.

It is therefore proposing that the current mandatory EU-wide fuel tax exemption accorded to aviation (and shipping) be removed. Although Member States may currently limit the scope of the exemptions by taxing these sectors domestically or after having entered into a bilateral agreement with another Member State to waive the exemption, “the reality is that exemptions remain,” says the Commission.

“The exemption offers these sectors a favourable tax treatment in the transport sector as road transport is not exempted and the exemption of rail transport is optional,” it says. “Moreover, the present situation substantially weakens the incentives for investing in more energy-efficient and less polluting crafts. The lack of proper differentiation between the different fuels in these sectors covered by the mandatory tax exemptions also does not facilitate reducing the significant price difference between fossil fuels and sustainable fuels. Properly designed taxation measures could support the uptake of sustainable fuels and at the same time their production could result in lower prices for these fuels.”

Removing the mandatory exemption would allow Member States to unilaterally tax the two sectors if they so wish but without obliging them to do so. However, with regard to aviation, international flights to third countries outside the EU would be excluded from the scope of the revised tax since, says the Commission, legal air services agreements with some third countries do not allow the taxation of fuel uplifted by the carriers of these third countries at EU airports.

Similarly, intra-EU cargo-only flights would also be excluded from the scope due to the special privileges granted to some third countries, for example the United States through the US-EU Open Skies agreement. Under Open Skies, US carriers have significant market share of the intra-EU cargo market and have current exemption from the taxation of aviation fuel uplifted in the EU.

The Commission says a possibility would be for Member States to tax fuel on domestic flights or through bilateral or multilateral agreements between them. Another possibility could in principle be to apply a fuel tax to international flights to those third countries that do not have air services agreements with the EU or are not prohibited by air services agreements. In any case, it adds, a passenger ticket tax may be an appropriate alternative to a fuel tax on international flights that would be outside the scope.

The proposal offers a number of options that could be applied to an aviation fuel tax, which include a transitional period of 10 years (2023-2033), increased in a linear way to the corresponding minimum tax rates applicable to motor fuels used in road transport. A zero rate would be applied for a limited period to advanced biofuels and e-fuels for aviation to help the uptake of these fuels until their production has been scaled up. This transition would also provide stakeholders with a clear price signal trend in order to adapt investments and technologies.

The Commission acknowledges a potential problem of an EU aviation fuel tax is carbon leakage due to tankering, whereby fuel is uplifted outside EU jurisdiction and used on subsequent intra-EU operations. However, it believes that due to the limited size of the fuel tanks on aircraft, the opportunities for tankering are limited. The collection of an aviation fuel tax is not expected to be a problem from an administrative perspective as they would be collected as in other transport modes by the fuel supplier and the funds transferred to the relevant tax authority.

An independent study carried out for the Commission and quoted in the ETD proposal, modelled a number of tax rates applied to aviation fuel, ranging from €0.17 to €0.50 per litre and a central option of €0.33/litre, with the airline expected to pass the cost on to passengers by raising ticket prices, leading to a reduction in passenger demand and hence fuel consumption. Only to a limited extent does it expect the airline be incentivised to choose more efficient aircraft for their operations to reduce the fuel consumed. The modelling showed implementing a tax on fuel loaded for intra-EEA flights had noticeable impacts on CO2 emissions in the long term, with reductions of between 6% and 15% relative to a 2016 baseline.

In terms of tax revenue, the study showed that under the €0.33/litre option, the tax would contribute around €6.7 billion ($7.9bn) per year in 2050. The wider impacts on the economy from the reduction in aviation demand would then reduce the rise in total tax revenue over the baseline to €5.4 billion per year.

By 2025, the introduction of a €0.33/litre fuel tax, with no transition period, could lead to a reduction of 10% in the number of flights when compared to the baseline but the overall flight frequency on most routes would still be higher than it was in 2016, although some variations are expected and specific regions could see their connectivity reduced. EEA carriers could also suffer negative competitiveness impacts in relation to third country carriers which may be subject to a more lenient tax regime in their home countries. The implementation of a fuel tax on intra-EEA flights could also give rise to concerns over ‘hub switching’ as carriers change the connection, or hub, airport from an EEA airport to a non-EEA airport. This is more likely to impact traditional network carriers than low-cost carriers with their mainly direct flights.

Reaction

Reacting to the fuel tax proposal, the International Air Transport Association (IATA) said a reliance on taxation as a solution to cutting aviation emissions was counter-productive.

“Aviation is committed to decarbonisation as a global industry,” said IATA Director General Willie Walsh. “We don’t need persuading, or punitive measures like taxes, to motivate change. In fact, taxes siphon money from the industry that could support emissions reducing investments in fleet renewal and clean technologies. To reduce emissions, we need governments to implement a constructive policy framework that, most immediately, focuses on production incentives for sustainable aviation fuels and delivering the Single European Sky.”

IATA acknowledged that market-based measures to manage emissions were required until technology solutions had been fully developed and said it supported the CORSIA scheme as a way to avoid a patchwork of uncoordinated national or regional measures such as the EU ETS. However, said the trade body: “We are extremely concerned by the Commission’s proposal that European States would no longer implement CORSIA on all international flights.”

Added Walsh: “Aviation’s near-term vision is to provide sustainable, affordable air transport for all European citizens with SAF-powered fleets, operating with efficient air traffic management. We should all be worried that the EU’s big idea to decarbonise aviation is making jet fuel more expensive through tax. That will not get us to where we need to be. Taxation will destroy jobs.”

Trade body Airlines for Europe (A4E) said the ‘Fit for 55’ package included proposals that would significantly impact European airlines in the years to come and have a transformative impact on the sector. However, commented A4E Managing Director Thomas Reynaert, climate policy regulation could also be ecologically and economically counterproductive. “Badly designed European taxes will not reduce emissions,” he said. “By making flying more expensive, it may shift demand globally and reduce traffic locally but it will not tackle the source of the emissions. We need to invest in solutions that offer real reductions in CO2 emissions per aircraft. Increasing costs reduces our capacity to make these investments whilst CO2 emissions are potentially shifted to other regions.”

A4E said unilateral and double pricing of CO2 under several market-based measures would be economically counterproductive and if airlines paid for their CO2 under the EU ETS, for instance, they should not have to pay for it again.

“Inefficient policies leading to a disproportionate cost burden hamper aviation’s decarbonisation plans. As one of the sectors hardest hit by the pandemic and with an essential role in kick-starting societal and economic recovery, future EU policies must guarantee and support the sector’s competitiveness,” said A4E. “The ‘Fit for 55’ policies risk affecting this competitiveness and that of the entire aviation ecosystem, Europe’s tourism industry and the wider EU economy. Carbon leakage will need to be mitigated through appropriate measures, such as uniform regulations, carbon border adjustment or designated finance mechanisms preserving competition neutrality.”

A4E is one of the five European aviation industry associations that contributed to the Destination 2050 roadmap initiative launched earlier this year aimed at achieving net zero CO2 emissions from aviation by 2050. The five associations – including ACI Europe, European Regions Airline Association, Civil Air Navigation Services Organisation and Aerospace and Defence Manufacturers Association, as well as A4E – took the release of the ‘Fit for 55’ package to repeat their support for the Commission’s climate ambitions.

“Destination 2050 is our sector’s contribution to the implementation of those ambitions, but our roadmap shows we cannot do this alone. Achieving a net zero European aviation requires fully-aligned and enabling policy, regulatory and financial frameworks – both at EU and national level. For this reason, we call on the European Commission to support and take the lead in the development of an EU Pact for Sustainable Aviation to drive these proposals forward. We stand ready to engage with the European Commission to define such a Pact and hold regular exchanges to ensure its implementation,” they said in a statement.

European NGO Transport & Environment, which has long campaigned for an end to aviation’s fuel tax exemption, said the Commission’s plans would drive airlines to use cleaner, low-carbon fuels. However, it said, the tax reform would only apply to fuel used on private and commercial flights within Europe and exempt 60% of all fuel sales.

“Axing jet fuel’s tax exemption in Europe is a vital step towards ending decades of subsidised pollution, which even included fuel for private jets,” said Andrew Murphy, Aviation Director at T&E. “But by not removing the tax exemption for flights outside of the EU, it still lets the majority off the hook.”

The revisions to the EU ETS should drive up the price of credits and bring forward the date by when emissions from the aviation sector must reach zero, said T&E. “However, flights departing Europe – responsible for over 60% of emissions – will remain exempt,” it pointed out. “Instead, the European Commission proposes that these flights be covered by an industry-crafted offsetting scheme [CORSIA], despite the Commission’s own research finding that it is ineffective.”

Campaign group Stay Grounded, which represents 170 member organisations, also welcomed the plan to end the tax fuel exemption. However, said spokesperson Magdalena Heuwieser: “This package will not make Europe’s aviation sector fit for 55% emissions reduction by 2030. It’s important to finally get rid of the kerosene tax exemption but the plan is not strong enough and the rollout over 10 years is way too short. We have to fully tax aviation immediately.”

She expressed disappointment that flights to non-EU destinations and intra-EU cargo flights were not included in the kerosene tax proposal and called for an immediate end to free allowances to airlines under the EU ETS.

Editor’s note: The important RefuelEU Aviation proposal contained in the ‘Fit for 55’ package is covered in an article here

Top photo: The European Commission’s Berlaymont building lit in green to mark the European Green Deal (© EU 2021)