California ETS: Allowances, Offsets, and the Québec Link

California’s Cap-and-Invest program is the state’s market-based limit on greenhouse gas emissions from its largest polluters. Run by the California Air Resources Board (CARB), it sets a shrinking annual cap on emissions, issues tradable permits called allowances, and requires roughly 400 covered businesses to surrender one allowance for every metric ton of carbon dioxide equivalent they release. It covers about 80% of the state’s emissions and, following legislation signed in September 2025, now runs through December 31, 2045.1C2ES. California Cap and Trade2ICAP. California Extends Cap-and-Trade to 2045, Renames Program Cap-and-Invest

How the Program Works

Each year, CARB decides how many tons of greenhouse gases the covered sectors are allowed to emit in total. That number is the cap. CARB then issues an equal number of allowances, each one good for a single metric ton of CO2 equivalent. Covered businesses have to turn in enough allowances, plus a limited number of offset credits, to match every ton they actually emit during the compliance period.3ICAP. USA – California Cap-and-Invest Program

The cap goes down every year. As allowances get scarcer, they get more valuable, and the incentive to cut emissions grows. A company that can reduce pollution cheaply may sell its extra allowances to one that can’t. That’s the market part.

The 2026 cap is 254 million metric tons of CO2 equivalent. Allowances can be banked for later use, but there are holding limits so no single participant can corner the market, and borrowing from future years’ budgets is not permitted.3ICAP. USA – California Cap-and-Invest Program

Who Has to Comply

Coverage generally begins at 25,000 metric tons of CO2 equivalent per year. About 400 businesses meet that threshold, and they fall into a few groups:

  • Large point sources such as power plants, refineries, cement plants, and other industrial facilities.
  • Fuel suppliers, who are covered “upstream” for the emissions their gasoline, diesel, and natural gas will generate when customers burn them. This is how the program reaches transportation and buildings without regulating each driver or household.
  • Electricity importers, who account for the emissions of power generated outside California but consumed inside it.3ICAP. USA – California Cap-and-Invest Program

Where Allowances Come From

Allowances reach the market two ways: they’re auctioned, or they’re handed out free.

Auctions run quarterly and are held jointly with Québec. They use a sealed-bid, single-round, uniform-price format, meaning every winning bidder pays the same clearing price no matter what they individually bid.3ICAP. USA – California Cap-and-Invest Program

Free allowances go to industrial facilities based on production benchmarks and how exposed they are to “leakage” (the risk that production, and its pollution, simply moves to another state). Electric and natural gas utilities also receive free allowances, but they don’t get to keep the value: they have to sell them at auction and return the proceeds to their customers.4California Public Utilities Commission. Greenhouse Gas Cap-and-Trade Program

Price Floor, Reserves, and Ceiling

The program is engineered so allowance prices stay within a predictable band. Three mechanisms do the work, and the 2026 figures illustrate them:

  • An auction reserve price of $27.94 acts as a floor. Nothing sells below it, and the floor rises each year by 5% plus inflation.3ICAP. USA – California Cap-and-Invest Program
  • The Allowance Price Containment Reserve holds a set-aside of allowances that CARB releases if prices climb. In 2026 the two reserve tiers are priced at $65.31 and $83.92.5California Air Resources Board. Cost Containment Information
  • A hard price ceiling, added by AB 398 in 2017, sits above all of that. In 2026 it is $102.52, and at that price CARB will supply as many allowances as buyers want, acting as a last-resort safety valve.3ICAP. USA – California Cap-and-Invest Program

Recent auctions have hugged the floor. After peaking at $41.76 in February 2024, the February 2026 auction settled at $27.94. The May 2026 auction produced a small recovery, with current-vintage allowances clearing at $28.81 and generating roughly $770 million for state climate spending. That’s more than $330 million below the May 2024 figure and well under the $1.8 billion CARB had once projected for a comparable auction based on a $68 weighted-average price.6Environmental Defense Fund. California’s Latest Cap-and-Invest Auction Shows What’s at Stake

Offsets and Their Limits

A covered business can meet a slice of its obligation with offset credits from emission-reduction projects outside the capped sectors. CARB has approved six project types: livestock methane management, ozone-depleting substances destruction, mine methane capture, rice cultivation, U.S. forest projects, and urban forest projects.7California Air Resources Board. Compliance Offset Protocols

The 2025 reauthorization set the offset limit at 6% of a company’s compliance obligation through 2045, with at least half required to come from projects delivering direct environmental benefits inside California. Offsets now also count “under the cap,” meaning that for every offset credit used, CARB has to retire one allowance from the following year’s budget so that the offset doesn’t loosen the overall limit.2ICAP. California Extends Cap-and-Trade to 2045, Renames Program Cap-and-Invest

The forest offset protocol has drawn sustained scrutiny. A 2021 CarbonPlan analysis of 65 “Improved Forest Management” projects concluded that roughly 29% of the 102 million credits they generated were over-credited, worth an estimated $410 million, because CARB’s methodology relied on coarse regional averages.8CarbonPlan. Forest Offsets Explainer CARB said its protocols went through a “robust public regulatory review process” and had been upheld by state courts, and noted it had updated the forest protocol twice since its 2011 adoption.9California Air Resources Board. CARB Response to ProPublica Forest Questions The 2025 law requires CARB to update all offset protocols by January 1, 2029, and re-evaluate them every five years starting in 2034.10CATF. California Reauthorizes Cap-and-Invest Program

Where the Money Goes

Auction revenue from state-owned allowances flows into the Greenhouse Gas Reduction Fund (GGRF). By November 2024, total appropriations from the fund had reached $32.9 billion, with $12.8 billion in implemented spending, and roughly 73% of the implemented funds have benefited disadvantaged and low-income communities.11California Air Resources Board. 2025 Annual Report on California Climate Investments

SB 840 created a tiered spending framework. The first tier covers baseline items like a manufacturing tax exemption and the Climate Bureau. The second tier dedicates $1 billion to high-speed rail and $1 billion to a discretionary set-aside. The third tier funds larger programs, including:

  • $800 million for Affordable Housing and Sustainable Communities
  • $400 million for transit and rail capital projects
  • $250 million for community air protection
  • $200 million for low-carbon transit operations
  • $200 million for wildfire and forest resilience
  • $130 million for safe drinking water

If revenues fall short, the third-tier programs are reduced proportionally.12California Legislative Analyst’s Office. Cap-and-Invest Revenue Allocations

Households see the program on their utility bills through the California Climate Credit, funded by the auction proceeds utilities are required to return to ratepayers. More than 11 million households receive the electric credit and more than 12 million receive the natural gas credit each year. Since 2014, over $19.4 billion has flowed back to residential customers, small businesses, and industry this way.4California Public Utilities Commission. Greenhouse Gas Cap-and-Trade Program

The 2025 Extension and Renaming

On September 19, 2025, Governor Gavin Newsom signed AB 1207 and SB 840, extending the program through the end of 2045 and formally renaming it from “Cap-and-Trade” to “Cap-and-Invest.” Both bills passed with supermajorities: 58 to 10 in the Assembly and 29 to 6 in the Senate.13EnviroVoters. AB 1207 Assembly Floor Vote

Beyond the new name and the longer horizon, the 2025 laws made several structural changes:

  • CARB has to set allowance budgets that put the state on track for its 2030 target (40% below 1990 levels) and its 2045 goal of net-zero emissions.14California Legislative Analyst’s Office. Cap-and-Invest Program Extension
  • Revenue from any allowances sold at the price ceiling now flows into a new California Climate Mitigation Fund earmarked for household energy cost relief, instead of being used to buy offsets.14California Legislative Analyst’s Office. Cap-and-Invest Program Extension
  • By January 1, 2031, CARB has to shift the free allowances that currently go to natural gas utilities over to electric distribution utilities, following the state’s electrification push.14California Legislative Analyst’s Office. Cap-and-Invest Program Extension
  • Free allocation to industry stays at 100% through 2030. After that, CARB gets discretion to adjust allocations based on actual leakage risk rather than assuming the worst case across the board.14California Legislative Analyst’s Office. Cap-and-Invest Program Extension

The 2026 CARB Amendments

In late May 2026, following hearings on May 28 and 29, CARB’s board voted 9 to 4 to adopt a broad set of amendments to the Cap-and-Invest regulation. The changes are expected to take effect September 1, 2026.15Argus Media. CARB Adopts Cap-and-Invest Changes

The amendments remove 118 million allowances from future budgets, aiming for roughly an 11% year-over-year cut in the emissions cap through the end of the 2020s, followed by an average 7% annual decline between 2031 and 2045.16Morgan Lewis. California Amends Cap-and-Invest Program

CARB also doubled the Manufacturing Decarbonization Incentive program from $2 billion to $4 billion. The fund is designed to help energy-intensive industries — food processors, cement producers, refiners, and steelmakers — invest in electrification, fuel switching, and other carbon-reduction upgrades.17CMTA. CARB Adopts Cap-and-Invest Amendments Companies can apply starting September 2026, with awards issued in 2027 and credits eligible for compliance use in 2028. The Environmental Defense Fund warned the new allowances could flood the market and depress prices, and climate policy researcher Danny Cullenward said half the fund was earmarked for the oil industry with “no significant guardrails.”18Local News Matters. California Cap-and-Invest Changes Hearing CARB’s resolution requires staff to return with implementation details and public outreach before allowances are actually issued, and it sets an effectiveness evaluation for July 2028.

The Linked Market With Québec

Since January 1, 2014, California’s market has been formally linked with Québec’s, creating the largest carbon market in North America. Allowances issued in either jurisdiction count for compliance in the other, quarterly auctions are held jointly, and both use a shared tracking system called CITSS.19California Air Resources Board. Program Linkage20ICAP. Canada – Québec Cap-and-Trade System

Ontario briefly joined in January 2018 but pulled out six months later, and CARB formally removed it as a linked jurisdiction in December 2018.19California Air Resources Board. Program Linkage

In September 2024, California, Québec, and Washington announced their intent to link all three cap-and-invest programs. On the California side, the process still requires the Governor to issue positive findings under SB 1018 and CARB to complete a formal rulemaking. If all three jurisdictions finish their regulatory steps on schedule, the linked market could begin operating in 2027.21Washington Department of Ecology. Cap-and-Invest Program Linkage22California Air Resources Board. CARB Market Notice on Linkage

Has It Cut Emissions?

California’s total greenhouse gas emissions fell to 360.4 million metric tons of CO2 equivalent in 2023, a 3% drop from 2022 and the lowest level in the state’s inventory. Emissions dropped below the AB 32 target of 431 million metric tons in 2014 and have stayed below it since, meaning the state hit its 2020 goal six years early.23California Air Resources Board. California Greenhouse Gas Emissions from 2000 to 2023

The 2030 target under SB 32 is tougher: 260 million metric tons, which means cutting another 100 million tons or so in the years remaining. Between 2000 and 2023, California’s carbon intensity — emissions per million dollars of economic output — fell 56.6% while gross state product grew 81.2%. Transportation is still the largest source of emissions at 37% of the total, followed by industry at 19% and electricity generation at 16%.23California Air Resources Board. California Greenhouse Gas Emissions from 2000 to 2023

Cap-and-Invest is one tool among many that produced that trajectory, alongside the state’s renewable portfolio standard, low-carbon fuel standard, vehicle emission rules, and other measures. It is the piece that puts a price on carbon and pays for a large share of the state’s climate spending.