California’s Proposed Aviation Fuel Penalties May Change Aviation Economics and be a Boon for SAF Producers

This policy, if adopted by CARB (CARB’s vote is scheduled for November 2024), would be the first of its kind in the U.S. and could have significant implications for the aviation industry and the development of SAF in California and beyond. While the proposed new regulation is limited in scope to flights originating and ending in California, the volume of intrastate flights in the economically important and geographically large state means those impacts could be substantial.¹ More significant, however, is the potential impact that the fueling requirements and proposed financial penalties could have on fuel pricing beyond California’s borders by potentially causing airlines to adjust pricing for their flights across the board to account for these new lower-carbon (and higher price) requirements within the state. Further, if the regulations actually spur the development of more SAF in the jet fuel supply chain within California, this could impact the mix of available fuels for many carriers (commercial airlines, air freighters and private aviation) that stop in California en route to and from other states and countries.

This development could serve as a boon for SAF producers to help scale this relatively nascent market through new demand mandates, which potentially could bring SAF prices closer to parity with conventional jet fuel, given the financial penalties that incumbent fuel may experience under the new rules. The wide price discrepancy between conventional Jet A and SAF has historically been one of the main challenges for uptake of renewable fuels in the aviation industry. This rule change would not initially make SAF cheaper to produce, but would effectively penalize conventional fuels, thus creating incentives to invest in SAF, while likely raising costs across the industry. Such costs may be passed on via increased prices for intrastate flights (or fewer routes) and potentially, spread across ticket prices nationally.

Overview of the Proposed Policy

The LCFS program, enacted in 2007, is designed to encourage the production and use of cleaner, low-carbon transportation fuels in California, and thereby reduce greenhouse gas (“GHG”) emissions. The LCFS program, which applies to fuel producers, importers, and certain other parties in California, aims to decrease fossil fuel dependence in the state’s transportation sector. Parties that sell or offer for sale transportation fuels in California must meet annual carbon intensity reduction targets or buy LCFS credits to meet the standards. LCFS standards are based on the “carbon intensity” of gasoline and diesel fuel and their respective substitutes. Credits are generated for low carbon fuels with a carbon intensity below the benchmark; deficits are generated for those fuels above the carbon intensity benchmark. Parties can sell, bank or use such LCFS credits to satisfy their compliance obligations.

In December 2023, CARB published proposed amendments to its LCFS program in response to changes called for by the broader scoping plan required under the California Global Warming Solutions Act. The proposed regulations would apply the LCFS to jet fuel suppliers for the first time — intrastate flights would no longer be exempted. The proposal would require jet fuel suppliers to compensate financially for their GHG emissions by paying for emissions-reducing projects, such as the production of SAF, which are fuels derived from waste fats and oils or other plant-based products, as well as synthetically derived fuels using a power-to-liquids pathway.² CARB’s new regulations, if implemented, would not mandate a specific percentage of SAF blending or use, but rather create an incentive for jet fuel suppliers to support SAF development and deployment. In addition to this potentially significant change, the proposed regulations include a number of changes related to renewable natural gas, which we described in more detail in our January 2024 insight. CARB is scheduled to vote on the proposed regulations in November 2024.

Potential Impacts on Fuel Pricing and Availability

The proposed regulations could have notable impacts on fuel pricing and availability for airlines and passengers in California and potentially in other states. According to CARB and advocates of using regulatory penalties to encourage production of SAF and disincentivize the pricing disparity of standard jet fuel, the proposed changes would create a market signal for SAF and help reduce its cost premium over conventional jet fuel, which is currently estimated at about $3.84 per gallon.³ In turn, these downstream impacts would support the expansion of SAF production in California, which has one of the few currently scaled production facilities in the U.S. that is capable of producing SAF from waste fats and oils.⁴

If adopted as proposed, however, some argue that the impacts on fuel pricing and availability, both within California and beyond its borders, could be detrimental. Specifically, it is uncertain who would ultimately bear the burden of the newly imposed deficits. Indeed, those who oppose the proposed regulations argue that the costs of the deficits on fuel suppliers in California would lead to higher fuel prices for industry consumers. Commercial airlines could subsequently choose to pass those costs onto all, or a subset, of its passenger network and air-freighters may pass these costs along through the cost of air shipments, thus hurting consumers. Additionally, those skeptical of the proposed changes question whether there are sufficient resources to meet the potential increased SAF demand, given the current nascent status of SAF production in the U.S.

Other Tailwinds Continue to Push SAF

This regulatory forced demand signal would come at a time when there are other macro tailwinds potentially pushing for the scaling of SAF. Companies in the aviation industry have been under various pressures from many of their stakeholders (including their investors and customers) to decarbonize their hard-to-abate operations. Many aviation companies have set ambitious corporate goals to decarbonize (such as net-zero commitments), but there are limited options for how such companies may achieve these goals given the physical limitations of decarbonizing aircraft.

Some in the industry have sought to leverage the voluntary carbon offset markets to help meet their decarbonization ambitions, but within the past year or so, there has been significant scrutiny by consumer groups⁵ with respect to alleged greenwashing. For example, in May 2023, a lawsuit was filed against Delta Airlines arguing that Delta’s claims of being “carbon-neutral” based on investment in voluntary carbon offsets to offset its GHG emissions is misleading.⁶ In the event that voluntary carbon offset markets continue to be viewed cynically by regulators, consumers, and the plaintiff’s bar, the decarbonization options for aviation companies would be limited, thus making SAF — despite its uncompetitive current pricing — one of the few ways to meet these decarbonization goals. These multifaceted demand signals (that is, pull coming from the aviation industry itself, as well as push from regulators) are likely to lead to an increase in SAF demand that cannot be met with current production capacities.

Practical and Legal Challenges

Practically speaking, CARB’s proposed rule change would require CARB to monitor and verify the carbon emissions and fuel consumption of intrastate flights in California, which could be difficult and costly given the large number and variety of flights and fuel suppliers involved. The proposed change would also require CARB to coordinate with other agencies and stakeholders to ensure the availability and quality of SAF and the compatibility of SAF with existing fuel infrastructure and aircraft engines.

There are also potential legal challenges to CARB’s proposal to regulate intrastate fossil jet fuel under the LCFS that could undermine its effectiveness and make it less likely to survive legal scrutiny. The proposed regulations could be challenged in court by the fuel suppliers, the airline industry, or other stakeholders on various grounds, including that the proposal violates federal laws preempting state regulation of commercial aviation, such as the Airline Deregulation Act of 1978,⁷ or that it discriminates against certain routes or suppliers, as the LCFS would only apply only to intrastate fossil jet fuel in California, rather than to every flight that fuels up in California. Further, CARB’s proposed regulations could face opposition from the Federal Aviation Administration (“FAA”), which has jurisdiction over aviation safety and environmental standards. However, the FAA has set a goal of achieving net-zero emissions from commercial aviation by 2050 through a combination of SAF, aviation technologies, and route efficiencies, so the agency may determine CARB’s actions to be compatible with its goals. Time will tell which, if any, legal challenges are raised in response to this impending regulatory change that CARB is expected to take.

Takeaways

The proposed change by CARB to regulate intrastate fossil jet fuel under the LCFS is a bold and unprecedented attempt to reduce GHG emissions and to stimulate the development and deployment of SAF. If adopted, the regulation could have wide ranging implications for the aviation industry and the SAF market well beyond the borders of California and could have notable impacts on the economics of aviation. It is anticipated the proposal will face several legal and practical challenges that could limit both the effectiveness and viability of the proposed regulations and, as a result, the timing and implementation remain uncertain. But it is notable that regulations such as this may provide additional support to the nascent SAF market by disfavoring conventional fuels over the near term. Time will tell if these regulations help subsidize these industries until they can truly meet price competitiveness or if these regulations will simply serve as a cost to be borne by the industry and, ultimately, the consumer.

¹ Intrastate flights account for about 2 percent of California’s greenhouse gas emissions and one-third of all flights in the state.

² The e-SAF (electrified synthetic fuels) using power-to-liquids pathway is a technology that converts renewable electricity into synthetic fuels, primarily liquid hydrocarbons such as gasoline, diesel, or aviation fuels. This process involves electrolyzing water to produce hydrogen, which is then combined with carbon dioxide captured from the atmosphere or industrial sources to produce synthetic hydrocarbons through various chemical processes. These synthetic fuels can be used in existing combustion engines such as jet engines, offering a potential carbon-neutral alternative to traditional fossil fuels for the aviation sector where electrification is otherwise not feasible.

³ Sourasis Bose, “U.S. sustainable aviation fuel production target faces cost, margin challenges,” Reuters, November 1, 2023.

⁴ The World Energy, LLC facility in Paramount, California, the “world’s first and North America’s only commercial-scale [SAF] production site,” began producing SAF in 2016, and, in 2022, secured the permits required to expand its SAF production capacity. See World Energy, LLC, “World Energy Secures Permits; Will Completely Convert Its Southern Calif. Refinery to Create North America’s Largest, World’s Most Advanced Sustainable Aviation Fuel Hub,” PR Newswire, April 22, 2022.

⁵ This anti-greenwashing sentiment is evident from new greenwashing laws and regulations coming out of the United Kingdom (“U.K.”), the European Union (“E.U.”), Canada, and California. The U.K.’s Green Claims Code, passed by the Competition & Markets Authority in 2021, and the E.U. Green Claims Directive, adopted by the European Parliament in March 2024, and currently under consideration by the European Council, both aim to ensure that business’ environmental claims are substantiated. On June 20, 2024, the Canadian federal government passed amendments to the Competition Act that prohibit, and apply significant penalties to, deceptive marketing practices related to a product’s benefit to the environment and combatting climate change. Domestically, California passed Assembly Bill 1305 in October 2023, which requires certain disclosures related to a company’s use of voluntary carbon offsets to reduce GHG emissions, aiming to increase accountability and transparency of a company’s carbon neutrality claims. See our December 2023 insight for additional information about California’s recent development in combatting greenwashing.

⁶ Other high-profile greenwashing claims recently brought against airlines include a November 2023 suit against United Airlines (“United”) where a passenger filed a class action lawsuit against the airline alleging that United’s description of SAF as “sustainable” suggests that the fuel has little or no GHG emissions and does not sufficiently consider the emissions associated with producing the SAF, in violation of the Maryland Consumer Protection Act. And, in June 2023, an Austrian regional court ordered Austrian Airlines AG, a subsidiary of Lufthansa Group, to remove certain claims from its website that promoted carbon-neutral flights powered 100 percent by SAF. Most recently, in March 2024, an Amsterdam District Court found that KLM’s “Fly Responsibly” campaign, including describing the use of SAF as “sustainable,” was misleading.

⁷ The Airline Deregulation Act of 1978, Pub. L. 95–504, 92 Stat. 1705–54, prohibits states from enacting laws that affect airline prices, routes, or services.