California does not have a carbon tax. It prices carbon instead through a cap-and-trade program, renamed “Cap-and-Invest” under 2025 legislation, that sets a hard ceiling on total greenhouse gas emissions and requires large polluters to buy tradable allowances for every metric ton they release. The program has generated more than $31 billion in auction revenue since it launched and adds roughly 26 cents to every gallon of gasoline through costs passed along to consumers.1California Air Resources Board. California Climate Investments 2025 Annual Report
Why Cap-and-Trade Instead of a Tax
A carbon tax fixes the price per ton of emissions and lets the market decide how much pollution results. Cap-and-trade does the opposite: the state fixes the total quantity of emissions allowed and lets the market decide the price. The practical difference is which variable the government controls.
California chose cap-and-trade largely because state climate law sets binding emission reduction targets. A declining cap enforces those targets directly. Under a carbon tax, if the price is set too low, emissions overshoot the goal and the legislature has to raise the tax. Under cap-and-trade, the cap itself guarantees the environmental result, and the market finds the cheapest way to get there. The tradeoff is price uncertainty: allowance costs can spike during economic booms or when the cap tightens faster than businesses can adapt. California addresses that with built-in price controls.
How the Program Works
Each year, the California Air Resources Board (CARB) issues a fixed number of allowances equal to the statewide emissions cap. One allowance equals the right to emit one metric ton of carbon dioxide equivalent.2California Air Resources Board. Cap-and-Trade Program Allowance Distribution Factsheet Regulated businesses must acquire enough allowances to cover their annual verified emissions. They can buy them at quarterly auctions, purchase them from other companies on the secondary market, or receive free allocations from CARB.
The cap declines each year, so fewer total allowances enter circulation. A company that cuts its emissions below its allowance holdings can sell the surplus to a company that hasn’t reduced as much. Over time, the shrinking cap forces aggregate pollution down regardless of which individual companies do the cutting.
Since January 2014, California’s market has been linked with Quebec’s cap-and-trade system. Allowances from either jurisdiction can be used to meet compliance obligations in the other, creating a single cross-border carbon market with joint quarterly auctions.3California Air Resources Board. Program Linkage
The current legal framework runs through January 1, 2046, following the 2025 extension that renamed the program Cap-and-Invest. Statewide targets include reducing emissions at least 40 percent below 1990 levels by 2030 and reaching net-zero by 2045.
Who Has to Participate
Any facility emitting 25,000 or more metric tons of carbon dioxide equivalent per year must participate.4California Air Resources Board. Cap-and-Trade Regulation Instructional Guidance That threshold catches oil refineries, cement plants, glass manufacturers, power plants, and similar large industrial operations. The program also covers upstream fuel distributors, which means emissions from burning gasoline, diesel, and natural gas are accounted for even though individual drivers and homeowners aren’t directly regulated.
Covered gases go beyond carbon dioxide to include methane, nitrous oxide, hydrofluorocarbons, and other fluorinated greenhouse gases. Together, the program addresses roughly 80 to 85 percent of California’s total greenhouse gas output.
Every covered entity must submit independently verified emissions reports to CARB annually.5California Air Resources Board. Mandatory Greenhouse Gas Emissions Reporting The penalty for coming up short is steep: the entity must surrender four allowances for every excess metric ton, effectively quadrupling the cost of noncompliance.6Legal Information Institute. California Code of Regulations Title 17 95857 – Untimely Surrender of Compliance Instruments
What It Costs at the Pump and on Utility Bills
Because fuel distributors and utilities are covered entities, cap-and-trade costs flow downstream to consumers. This is where the program starts to feel like a carbon tax at the gas pump and on your utility bill, even though the mechanics are different. A 2025 report from CalEPA’s Independent Emissions Market Advisory Committee estimated the following impacts based on 2023 allowance prices of roughly $33 per ton:7CalEPA. Assessing the Affordability Implications of Californias GHG Cap-and-Trade Program
- Gasoline: about 26 cents per gallon, assuming full cost pass-through
- Natural gas: about $0.18 per therm, roughly an 8 percent increase on residential bills
- Electricity: about 1.3 cents per kilowatt-hour, less than 5 percent of the retail rate
Those figures will climb as the cap tightens. At allowance prices projected around $54 per ton, gasoline costs rise to roughly 42 cents per gallon. At the 2030 price ceiling of approximately $118 per ton, the impact reaches about 93 cents per gallon. Natural gas and electricity impacts scale similarly.
One partial offset flows the other way. Utilities that receive free allowances from CARB are required to use the proceeds for ratepayer benefits, including the climate credits that appear as line-item reductions on some residential bills.8California Air Resources Board. Allowance Allocation
Allowance Prices and Price Controls
Allowance prices are set primarily at quarterly joint auctions with Quebec. CARB sets an auction reserve price that functions as a floor; no allowance sells below that minimum. The reserve price rises each year by 5 percent plus inflation, so the cost of emitting carbon increases steadily over time.9California Air Resources Board. 2025 Annual Auction Reserve Price Notice
On the upper end, the program includes cost containment mechanisms to prevent price spikes from crippling regulated industries. For 2026, the structure is:10California Air Resources Board. Cost Containment Information
- Tier 1 reserve sale price: $65.31 per allowance
- Tier 2 reserve sale price: $83.92 per allowance
- Price ceiling: $102.52 per allowance
If the auction price climbs to a reserve tier, CARB releases additional allowances from a reserve pool at that price. If the reserve is exhausted, the price ceiling takes over: CARB sells unlimited allowances at $102.52 but must use all the revenue to purchase equivalent real emission reductions elsewhere. Recent auction settlement prices have been well below these safety valves. Allowances also trade on a secondary market between auctions, where prices move with supply expectations and the pace of regulatory tightening.
Where the Money Goes
Revenue from the sale of state-owned allowances is deposited into the Greenhouse Gas Reduction Fund. As of November 2024, that fund has received over $31.4 billion since the program began.1California Air Resources Board. California Climate Investments 2025 Annual Report The Legislature and the Governor allocate these funds through the annual budget to state agencies running climate-related programs.
State law requires at least 35 percent of the total to benefit disadvantaged and low-income communities.11California Climate Investments. About California Climate Investments The actual share has consistently exceeded that floor. In 2023, 85 percent of the $1.7 billion implemented through California Climate Investments went to priority populations.12California Air Resources Board. California Climate Investments Using Cap-and-Trade Auction Proceeds 2024 Funded projects include public transit expansion, affordable housing energy retrofits, clean vehicle rebates, and urban greening in underserved neighborhoods.
No Federal Carbon Tax
The United States has no federal carbon tax or national cap-and-trade system. Several bills have been introduced over the years, and the issue gained renewed attention in 2025 as U.S. exporters began facing the European Union’s Carbon Border Adjustment Mechanism, which effectively penalizes imports from countries without carbon pricing. Proposals such as the Foreign Pollution Fee Act and the Clean Competition Act have been floated in Congress, but none have advanced to a floor vote. California’s program remains the largest carbon market in North America and operates entirely under state authority.