The background to government incentives
Carbon capture and storage (CCS) is recognised as an essential technology to combat climate change and manage industrial emissions of greenhouse gases that are otherwise difficult to reduce. Capturing, transporting and storing CO2, however, entails high costs for companies that want to reduce their emissions using this technology. The start-up of a CCS project requires large capital investments, and although scaling up the technology over time can reduce the cost of building capture plants and associated infrastructure, CCS will still be capital-intensive.
Government incentives are thus needed to overcome the early stages of development and realisation of CCS at scale. The most effective way to incentivise investment in CCS is to make it costly to release CO2 into the atmosphere, so that CCS becomes a more affordable option. In this article, we will therefore explore different government incentives and compare them to identify which of the incentives can most effectively accelerate the implementation of CCS.
This article is part of a series of articles on carbon capture and storage. Read the first article “What is carbon capture and storage and why is it important?” and article two “The regulatory framework for carbon capture and storage (CCS)” .
Do you want to hear about the opportunities and challenges for the realisation of CO2 management on a large scale? Listen to our podcast on “Carbon capture from waste incinerators – opportunities and challenges”.
Direct regulation through government-imposed limits on emissions
A first option for limiting CO2 emissions is direct regulation, whereby governments set specific emission limits or require the use of specific technologies to reduce emissions. Several countries, including Norway, have adopted this approach to control emissions of toxic gases and other pollutants. For example, the EU and some US states have set target requirements for average CO2 emissions from cars.
However, direct regulation is less effective in promoting carbon capture and storage, as it mainly sets an upper limit for CO2 emissions or requires the utilisation of certain technologies. This means that emitters are only incentivised to meet, but not exceed, the regulatory limits, as this would incur additional costs without corresponding benefits. Furthermore, direct regulation is often based on uniform standards and technologies, resulting in a ‘one-size-fits-all’ approach that fails to take into account the individual differences between different actors and industries. Direct regulation can thus lead to increased costs, especially for small and medium-sized enterprises that do not have the capacity to implement expensive solutions. This makes it challenging to set CO2 emission limits that are suitable for everyone and at the same time high enough to promote carbon storage.
Thus, there are several challenges with direct regulation of carbon emissions. Given that direct regulation does not make it more expensive to emit CO2, but rather puts a cap on CO2 emissions for all companies, direct regulation is rarely an effective incentive for carbon capture and storage. In addition, it is an incentive that is less favourable to business than other government incentives.
Research and development support
An alternative to direct regulation through government-imposed emission limits is to focus on supporting industry by promoting research and development in carbon capture and storage. Norway, like several other countries, has long been a driving force for research and development in the CCS sector. Through various public support schemes, such as research funding and grants, important incentives have therefore been provided for institutions and players wishing to develop and test new CCS technologies. Key players in Norway include Enova, the Research Council of Norway, Gassnova, Climit and the Technology Centre at Mongstad. In addition, Norway has supported the Sleipner and Snøhvit pilot projects, which have been decisive in establishing Norway as a leading nation in carbon capture and storage. Norway has also been active in international co-operation to promote CCS, which is essential for sharing knowledge, coordinating research and funding joint projects that can accelerate development at a global level.
Research and development funding has therefore played, and continues to play, a significant role in promoting solutions that can make CCS more cost-effective and feasible to implement on a large scale. This type of support is thus crucial both for the development of CCS in Norway and internationally. However, it is important to note that support for research and development alone is not sufficient to realise CCS on a large scale. Research and development support does not solve the challenges associated with long-term financing of projects, or the need for stable and predictable framework conditions, including regulatory measures that support CCS technology. For carbon capture and storage to be realised in practice, support must therefore be combined with other incentives that directly target those who emit CO2.
Tax benefits for carbon storage
Another government incentive to promote carbon capture and storage is tax benefits that are awarded to businesses that, instead of emitting CO2 to the atmosphere, implement capture and storage. These tax benefits, often given in the form of tax credits, are given per tonne of CO2 captured and permanently stored, and can be deducted from the company’s taxable income. This provides a direct financial incentive that is specifically designed to support carbon capture and storage initiatives, rather than making it costly to emit CO2. Such a support system can thus be an advantage for scaling up carbon capture and storage technology.
An example of a country that uses tax benefits as an incentive is the USA, where the scheme referred to as 45Q is named after the relevant provision in the federal tax law. The scheme has long been criticised for its inefficiency, but was significantly strengthened with the passing of the Inflation Reduction Act in 2022. The change in the law made the scheme more financially sustainable for organisations that have or will invest in carbon capture and storage. The introduction of direct payments of the tax benefits, in the form of cash to the company, for the first five years of the project is a particularly favourable change. To some extent, this solves the challenge of several projects not generating sufficient tax to fully utilise the tax credits. After the five years of direct payments, it will also be possible to transfer the tax benefits to other players that pay higher taxes to the state, so that the tax benefits can be utilised to a greater extent.
Even though the adoption of the Inflation Reduction Act has led to major improvements in the US tax benefit system, there are still several challenges with the tax scheme. Among other things, the tax benefits are exposed to political changes in that projects initiated now have no guarantee of the continuation of the support scheme at the next election. This is a major risk in light of the polarised climate debate in the US, which is causing operators to hesitate to implement carbon capture and storage. In addition, it’s worth mentioning that the tax benefits are only achieved when one tonne of carbon is permanently stored. This presents a barrier to carbon capture and storage in that pre-commissioning costs are only compensated when CO2 is permanently stored underground. Furthermore, the complexity of the tax benefit systems can be challenging to manage, especially for smaller players. Given that the largest players are often the ones with the resources to invest in carbon storage, this means that smaller players may find it difficult to utilise the tax benefits effectively.
Co2 tax
A first option that involves making it more expensive to emit CO2 into the atmosphere is a CO2 tax, also referred to as a carbon tax or carbon levy. Norway was one of the first countries to introduce a national CO2 tax back in 1991, which was one of the incentives behind the Sleipner and Snøhvit pilot projects. The CO2 tax means that emitters pay a predetermined tax on CO2 emissions, in line with the polluter pays principle, also known internationally as the ‘polluter pays principle’. By increasing the CO2 tax to a level that makes it cheaper to capture and store CO2 than to release CO2 into the atmosphere, it creates a major incentive for carbon capture and storage. The reason for this is that refunds are given for paid CO2 tax if documentation from the storage operator on the amount of stored CO2 is presented.
An important question is also how the revenue from the CO2 tax will be used. In the current system for CO2 tax in Norway, the revenue from the CO2 tax goes directly into the national budget as a revenue that is distributed in the ordinary process for the national budget each year. There are both advantages and disadvantages to using the revenue from the CO2 tax in the national budget. The advantages include the fact that the funds can be used for necessary prioritisations and that additional revenue from the CO2 tax does not require additional funds for administration or bureaucracy. However, there are several alternatives to utilising the revenue in this way. For example, the carbon tax can be paid back to the population so that everyone is compensated for the fact that products become more expensive through the carbon tax distribution scheme (KAF). Another option is for the revenue to be earmarked for climate-friendly alternatives, including money for carbon capture and storage, which in turn can accelerate the implementation of the technology.
However, the disadvantages of the CO2 tax are the challenges of setting an adequate price for CO2 emissions. A low tax can lead to many people choosing to pay the tax rather than reduce their emissions. To promote the profitability of carbon capture and storage, the Støre government in 2021 promised a gradual increase in the carbon tax to NOK 2,000 per tonne of CO2, in the form of non-quota emissions, by 2030. As of 2024, the tax is NOK 882 per tonne of CO2, which shows that a significant increase remains over the next five years. The promise to raise the carbon tax is a powerful incentive for carbon capture and storage by reducing political uncertainty and providing predictable cost estimates for the future.
However, a disadvantage of such a carbon tax is that the tax is imposed on the last link in the value chain. This is particularly visible in the case of waste incineration. Waste incineration plants in Norway are required to receive waste that is converted to CO2 during incineration. Even though it is waste incineration that ultimately releases CO2 into the atmosphere, no CO2 tax is levied on either the producer or the consumer. Many argue that producers and consumers should also bear the costs of the CO2 tax. One challenge with this, however, is that it is the waste incineration plants that have CO2 emissions and can therefore introduce carbon capture and storage. Shifting the burden of carbon taxes to consumers and producers is therefore challenging to implement in practice.
Quota trading system
Another incentive that puts a price on carbon emitted into the atmosphere is the emissions trading scheme. Quota trading systems for carbon capture and storage, often referred to as ‘cap-and-trade’ or ’emissions trading scheme’, have been introduced in several countries and regional organisations. The EU has established the so-called Emission Trading Scheme (EU ETS), which is part of the EEA Agreement through Protocol 31. Norway joined this system in 2008. Outside Europe, some states in the USA, such as California and New York, as well as China, South Korea, New Zealand and some provinces in Canada have introduced similar emissions trading schemes.
In an emissions trading system, an annual cap is set on the number of tonnes of CO2 that can be emitted. The maximum emission of CO2 is then divided into carbon quotas, each corresponding to one tonne of CO2 emissions (tCO2). Companies that emit CO2 are then allocated these carbon quotas for free each year. If a company has more carbon allowances than it needs, these can be sold to other companies or saved for later years. Companies with too few allowances, on the other hand, must either buy more allowances in the market from other companies, pay high fines, or reduce their emissions through measures such as carbon capture and storage. In Norway, more companies have to buy allowances in the market because their carbon emissions are higher than the carbon allowances they receive for free each year. This can make it more affordable to implement carbon capture and storage.
To ensure that the system contributes to a real reduction in CO2 emissions, the number of free allowances allocated is reduced annually. As the number of allowances decreases annually and prices rise, the need for carbon capture and storage increases as a long-term strategy to reduce the costs associated with CO2 emissions. Over time, carbon storage can become a cheaper solution than buying allowances in the market. This is one of the benefits of the ETS. Furthermore, the ETS provides control over CO2 emissions by setting a maximum total number of tonnes of CO2 that can be emitted each year.
However, there are also several disadvantages to emissions trading systems. The price of allowances can be unstable and sometimes quite low, creating uncertainty about future revenues and costs. This can reduce the effect of the incentive to invest in carbon capture and storage. To address this challenge, the EU, for example, has proposed the creation of a European Central Carbon Bank (ECCB). The carbon bank in the EU would be able to regulate the supply and demand of allowances to stabilise prices and create a more predictable market.
Another allowance trading system worth mentioning is ‘cap-and-invest’, which has been implemented in the state of New York in the US. In this system, the proceeds from the sale of allowances are used to fund measures to combat climate change, such as research into carbon capture and storage. The advantage of this system is that the funds are invested directly in climate measures, rather than returning to companies as a source of income. At the same time, traditional emissions trading systems, where companies earn from reducing emissions, ensure that emission cuts are implemented where they are most cost-effective.
Direct subsidies
Direct subsidies do not put a price on CO2 emissions, but are a government incentive that can encourage carbon capture and storage. Direct subsidies are already used in several parts of the world in connection with CCS. There are several types of direct subsidies from the authorities, but the most common for carbon capture and storage are subsidies via carbon difference contracts (referred to as ‘contract-for-difference’ or ‘CfD’) or subsidies for demonstration projects.
Demonstration project grants involve the government allocating funds specifically for a project to demonstrate CCS technology, typically on a large scale, to illustrate the viability of such projects and advance a policy goal. Norway is one of the countries that has taken this approach with the Longship project, which will be Europe’s first end-to-end CCS value chain. The project is expected to receive NOK 20 billion in government funding from the Ministry of Energy, representing almost 70 per cent of the estimated cost of NOK 30 billion. Gassnova is responsible for following up the project, and such a grant is therefore closely linked to the research and development support mentioned above.
Carbon offset contracts mean that the authorities guarantee a pre-agreed minimum price per tonne of CO2. The contract can be granted both to companies that capture CO2 and to companies that store CO2. In the case of carbon-differential contracts for storage, it can be implemented by the authorities announcing a storage site to which players can bid a minimum price required to store one tonne of CO2. The authorities then select the most cost-effective proposal. The size of the subsidy in such a case will be the difference between the price that the operator can get for the carbon storage in the market and the pre-agreed minimum price. This price point is thus often higher than what is expected to be the market price, and ensures a minimum price for the carbon that ensures a stable and predictable revenue stream for project developers.
Such carbon-differential contracts have been used in several European countries, and the UK is one of the countries that has invested heavily in this approach. Among other things, the UK has announced plans to support carbon capture and storage with GBP 20 billion in funding over a period of 20 years. The first awards of such contracts in the UK took place in 2023 and 2024. These awards have been targeted at facilities that capture CO2. In recent years, several other European countries have introduced carbon offset contracts, including Germany, which announced in 2023 that it will spend EUR 50 billion on such contracts. France also introduced carbon offset contracts in 2024, focusing on carbon capture from the 50 largest point source emissions in the country.
There are several advantages to these carbon offset contracts. Firstly, it gives the industry the confidence to invest in carbon capture and storage because the player is protected against political changes that could affect the carbon price in the market. Furthermore, such contracts counteract the problem of what is referred to as carbon leakage to other countries. This is because national rules that impose high taxes on carbon emissions result in carbon emissions being transferred to countries where it is cheaper to emit CO2. For example, Norway sends more than half a million tonnes of residual waste from Norwegian households to Sweden every year, where waste incineration is cheaper. This poses a challenge to the profitability of Norwegian waste incineration plants, leaving less money for the development of technologies such as carbon capture. If waste incineration plants are instead given carbon-differential contracts, the players are guaranteed a price for the carbon that is captured and stored. Based in part on these advantages, many argue that carbon offset contracts provide greater certainty for carbon capture and storage and will be cheaper overall than other government incentives.
What is most effective?
Overall, there are a number of government incentives that can promote the development of carbon capture and storage. The challenge lies in identifying which incentives are most effective in accelerating and scaling CCS technologies.
Direct regulations, which set an absolute maximum on CO2 emissions, are often insufficient to incentivise CCS as they primarily focus on reducing CO2 emissions in general. Furthermore, support for research and development is essential for technological progress, but does not necessarily influence the economic decisions required for CCS deployment.
Tax incentives provide direct economic incentives, but the start-up costs of CCS remain high and tax incentives are sensitive to policy changes. The carbon tax may act as a stronger economic incentive by making carbon emissions more expensive, but still faces similar challenges in that start-up costs are high. Emissions trading schemes, where carbon capture and storage will reduce the need to buy emission allowances, also share the challenge of significant investment before carbon can be stored and deducted in the carbon accounts. Thus, the economic market incentives are only effective when CCS is established and the associated costs are lower than the costs of paying taxes and/or allowances.
In cases where operators are subject to both a carbon tax and a quota trading system, this also entails a risk of double taxation, in that both taxes must be paid to the government and quotas must also be purchased in the market. This makes investments for start-ups particularly difficult. However, direct subsidies, such as financial incentives for start-ups or in the form of carbon offset contracts, can offer the necessary incentives to cover start-up costs. Direct subsidies reduce investment risk and are more likely to accelerate the development and implementation of CCS technology. At the same time, these measures create incentives only for specific actors that are granted support, and do not represent a broad market incentive in the same way as carbon taxes and emissions trading schemes.
Thus, no single solution is sufficient to scale up carbon capture and storage in an economically sustainable way. A combination of incentives is therefore not only beneficial, but also necessary for the implementation of carbon capture and storage on a large scale. A coordinated and concerted effort through various incentives, without overburdening the business community with high costs, is therefore key to the success of large-scale CCS.
Hjort’s assistance
At Hjort, we specialize in government incentives for carbon capture and storage (CCS) and can offer strategic advice on how to make the start-up and operation of CCS as financially sustainable as possible. By having expertise in both the legal and technological aspects of carbon capture and storage, Hjort offers comprehensive and thorough advice.
