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Are Carbon Offsets Tax Deductible (6 Common Questions Answered!)

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What do you get when you introduce a neat way for companies & individuals to pay for their carbon emissions with money?

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A busy, burgeoning market that’s already rocketed above $1 billion! Also, a market still waiting to be fully regulated, especially when it comes to taxes.

Many see carbon offsets as a kind of an eco-tax anyway. So are we to pay tax on tax? In other words, are carbon offsets for business tax deductible?

The answer isn’t straightforward, I’m afraid. Carbon offsets may or may not be taxed depending on the type of market, scope of business, and region.

How do these relate?

Let’s find out by answering your frequently asked questions!

1. Can a Business Deduct Carbon Offsets?

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The recent growth of carbon markets has led to discussions on how carbon offsets should be taxed and which criteria should be used to calculate exemption (if any).

According to the Center for Climate and Energy Solutions (C2ES), some elements of carbon trading have to be considered. They help to decide whether or not a business should be taxed and by which scale.

To be clear, carbon offsets are deductible if you’re supporting a not-for-profit project or a registered charity. You’re only barred from this exemption if you buy from purely commercial projects.

In other words, if it’s a donation, it will be deductible. But if it’s an investment you made hoping to profit off of it, it won’t.

Most legit organizations will have this info somewhere in the About Us or FAQ section on their website. Or you can reach out to them directly to make sure.

2. What Type of Carbon Offsets Should I Buy?

When you decide that you want to buy carbon offsets, you should do your homework and find out if the receiving project is meeting all the requirements.

For one, you need to make sure that the targeted project is pro-environment and that it really needs funding.

The two main types of offset programs include:

  • Avoidance offsets – Bought when you are seeking to channel your funds towards projects that mainly look towards avoiding or preventing carbon emissions in the future. A good example of an initiative running under these offsets is building wind farms instead of new fossil energy plants.
  • Removal offsets – These offsets are often for projects that aim at reducing the level of CO2 that’s already in the atmosphere. The projects may be looking for natural solutions e.g., planting trees, or mechanical e.g., carbon harvesting and conversion.

Depending on the state that you will be operating from, the deductible tax (if provided) will vary.

3. What Types of Carbon Offset Credit Markets Are There?

There are 2 different types of carbon offset credit markets. Each of them may or may not get taxed differently.

They include:

1. Mandatory carbon offset market

As you may have already guessed from the name, this type of offsets market is normally used by governments or companies that have a legal mandate to offset their carbon emissions.

Most of the time, the majority of those who join in here are countries that have formally acknowledged and adopted the limits set in the UNFCCC (Frame of the United Nations Convention on Climate Change).

Now, mandatory carbon markets are regulated by carbon reduction schemes on the sub-national, regional, and international levels.

An example is the Clean Development Mechanism formed under the California Carbon Market, the EU-ETS (European Union Emissions Trading Scheme), and the Kyoto Protocol. (The latter was the first to introduce carbon offsets back in 1997.)

How do they do it?

Simply put, they measure every ton of carbon dioxide in carbon credits also known as Certified Emission Reductions (CERs). These credits may then be sold and bought by the polluting companies.

And since it’s mostly big corporates and international companies, there’s always taxation involved because of the scale of operation going on. It also involves huge loads of money that most governments would rather tax than not.

Otherwise, every other person could just waltz into the carbon offsets markets.

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2. Voluntary carbon market

Voluntary carbon markets, on the other hand, are not legally bound by any mandate or environmental law. They operate on a parallel plane and serve individuals or private companies that want to buy carbon offset credits voluntarily.

This market deals in VER (Verified Emission Reduction) credits. The volunteers here want to reduce their carbon footprints mainly through Corporate Social Responsibilities (CSRs), public relations, and out of self-initiative. A good example was Disney’s 2020 pledge for the net-zero campaign.

Other companies or individuals may also go into the voluntary market to get some reputation, certification, or just a better environment overall.

As a company or individual, you can buy carbon offset credits from an organization, project, or a carbon fund. You just have to ensure that they are verified and calculated using the current VER standards.

Unlike mandatory markets, VERs are not sufficient to achieve the objectives set under the Kyoto Protocol. This is because, most of the time, the scale of offsets is not huge enough to make a significant impact that demands taxation.

As such, most voluntary offset credits are not taxed as heavily as in the mandatory markets. And depending on the scale of your purchase, sometimes you may buy the offset credits tax-free!

4. Should You Buy Carbon Offsets?

You should buy carbon offsets if you want to be part of the net-zero effort. Since their market price will keep rising, you can also buy them hoping for a return on investment some time in the future!

Carbon offsets for business are also a great way of counteracting the effects of your business’s carbon footprint in the long run. Ensure that you register under the right market type to get proper tax handling from your respective government.

5. How Can I Buy Carbon Offsets?

Not all carbon offsets will actually end up helping our planet! So the first question you should ask is whether an offset meets the requirement of additionality.

In plain English, this means whether the offset will manage to reduce or prevent carbon in a way that wouldn’t have happened without it. In other words, you’ll want to know whether it actually steals someone else’s (usually the government’s) thunder. And makes money while at it.

If it does have a measurable impact, chances are it’s a great offset for individuals or businesses. If not, it’s just another case of no-good greenwashing.

You should also look out for certified B Corporations, which will vouch for their transparency and eco-friendliness. 

Finally, feel free to reach out directly to the representatives and ask for proof that they are legit. (This guide recommends questions to ask.) If they are forthcoming and transparent, it’s a good sign.

6. Are Offsets for Charity Taxable?

Offsets meant for a charity cause are usually not taxed.

The main reason is that they’re not for profit and credits only flow in one direction. That is, it’s purely funding with no return on investments.

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