Options for penalising non-compliance with funding obligations

Legal assistance paper

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Date produced: 01/12/2009

If a Party has a quantified obligation to contribute funds (e.g. assessed contributions) under any KP or LCA agreement applicable to the post 2012 period, what are the options for penalising non-compliance and how would they best be expressed in the relevant treaty?  

At present, under the Kyoto Protocol, options for penalising non-compliance with funding obligations are very limited.

Article 18 of the Kyoto Protocol provided for the Conference of the Parties serving as the meeting of the Parties (the CMP) to approve compliance mechanisms and procedures.  A Compliance Committee has been established, which functions through a plenary, a bureau and two branches: the Enforcement Branch and the Facilitative Branch.

The remit of the Facilitative Branch is to use “soft” enforcement measures such as persuasion and capacity building to encourage parties to the Protocol to comply with their obligations.  The Enforcement Branch has the power to impose punitive measures but only in relation non-compliance with certain requirements, namely:

  • quantified emission limitation or reduction commitments under Article 3;
  • methodological and reporting requirements under Article 5 and Article 7;
  • eligibility requirements under Articles 6, 12 and 17.

There are no such enforcement powers in relation to Article 11 of the Kyoto Protocol, which deals with funding for adaptation.

In particular, what drafting would best express the following non-compliance mechanisms:

(a) holding back AAUs (Assigned Amount Units) before issuance as a kind of deposit, and monetise them when a country does not comply with its financial obligations

Assigned amount units (AAUs) are issued by Annex I Parties to the Kyoto Protocol into their own national registry, rather than being issued by any central body established under the Kyoto Protocol (in which they differ from, for example, CERs).  Until they are issued by an Annex I Party, AAUs as such do not exist.  Article 3 of the existing Kyoto Protocol, combined with Decision 13/CMP.1 on Modalities for the Accounting of Assigned Amounts, mandates the issuance of AAUs by Annex I Parties.  Currently, therefore, there is no opportunity or legal avenue for AAUs to be “held back” before issuance.

Substantial drafting to alter both Article 3 and the relevant CMP decisions (in particular Decision 13/CMP.1) would be required in order to create a mechanism of the type described here.  Alternatively, if a separate legal instrument, such as a new protocol, were to be created, the provisions relating to AAUs would need to take a different approach to that taken in the current Kyoto Protocol.  Provisions relating to the collection, sale, supervision and administration would also need to be drafted in each case, although the technical details could be left to a subsequent CMP decision or the equivalent under a new legal instrument.


As alternatives to achieve a similar outcome, you might wish to consider the following:

  • Requiring a percentage of AAUs issued by a Party to be transferred after issuance to a central body, which could then be auctioned in the event that the relevant Party did not meet its financial obligations for the relevant commitment period and contribute the proceeds towards international adaptation activities.
  • Applying a share of proceeds to the first international transfer of AAUs by the country which issued them, such share of proceeds to be held as a deposit in case the relevant country does not comply with its financial obligations.  If the Annex 1 party met its funding obligations then the AAUs could be returned to it after the final reconciliation and surrender at the end of the compliance period.

Both these options have some similarities with the “share of proceeds” under the CDM and would be more consistent with the current Kyoto architecture.  Please see section 5.1 to 5.6 below for a general discussion of a “share of proceeds” mechanism for AAU trading.  It should be noted that the CDM share of proceeds for administrative expenses and adaptation costs is mandated in the Kyoto Protocol itself[1] and not just in the modalities and procedures established by subsequent CMP decisions.  A share of proceeds in respect of AAU transactions would have a firmer foundation if it were provided for in an amended Kyoto Protocol or LCA text, and not just in decisions of the CMP or the Conference of the parties to the UNFCCC (COP) or equivalents of these decisions under a new treaty.

(b) penalty tax on AAU trading, which is triggered when not complying with finance obligations

We recommend further investigation of whether it is possible, under international law, for bodies established under the Kyoto Protocol or UNFCCC to be given the power to impose penalties, as there are currently no financial penalties as such under the Kyoto Protocol.  As a minimum, the establishment of such binding consequences of non-compliance would be likely to require a basis in the form of an amendment to the Kyoto Protocol (or as a provision of a new legal instrument), rather than merely a CMP decision.

However, we understand that what may be intended here may, in fact, more closely resemble a share of proceeds mechanism than a tax.

Please see paragraphs 5.1 to 5.6 below for a general discussion of a “share of proceeds” mechanism for AAU trading.

There are some specific issues that would need to be considered, and reflected in the drafting, of a share of proceeds type mechanism which was triggered only in cases of non compliance.

  • In considering which party to the AAU transfer would be liable to pay the share of proceeds, should this depend on which of these parties has failed to comply with its obligations to contribute funds?  What should be the position where both parties have failed to comply?
  • Would the share of proceeds apply only to AAU transfers which took place during the period during which funding arrears were outstanding?  A retrospective share of proceeds levied on a transfer that took place while there were no outstanding arrears may be difficult to enforce, as well as offending against the general principle that “taxation” should not be retrospective.

(c) (temporary) cancellation of DNA accreditation (which would increase
pressure because the companies from that country would have difficulties obtaining CERs)

This option assumes the continuance of the CDM after 2012, under the Kyoto Protocol or a new legal instrument.

One significant potential problem with this approach is that there is, currently, no process for Designated National Authorities (DNAs) to be formally “accredited” by any body established under the UNFCCC or Kyoto Protocol.  The CDM modalities and procedures simply provide that “Parties participating in the CDM shall designate a national authority for the CDM”[2].  DNAs are, therefore, merely the national authority that is designated by a party to the Kyoto Protocol.

To create a mechanism by which DNA accreditation could be temporarily cancelled would, therefore, require an accreditation procedure to be established.  However, the existence of such a procedure would imply that UNFCCC/Kyoto Protocol bodies could refuse to recognise or deal with a DNA designated by a party.  This could be objected to on the grounds that it trespasses on the party’s national sovereignty and right to designate its own national authority to deal with CDM matters, in conflict with the principles reaffirmed in the UNFCCC (see for example the eighth recital).  A mechanism to cancel DNA accreditation might also create a number of practical difficulties, as the DNA is the channel for many communications between the CDM EB and Parties, for example in relation to making requests for review of registration of CDM projects or for review of issuance of CERs.


 As an alternative, you might wish to consider building on existing provisions of the Kyoto Protocol and CDM modalities and procedures, which restrict Parties to the Kyoto Protocol from obtaining, transferring or using CERs if they do not meet certain eligibility criteria.  You could consider adding payment of adaptation contributions to this list of eligibility criteria.  Private companies would be affected by the ineligibility of the Party, and would also be prevented from transferring CERs, creating pressure in the way you describe.  This option is explored in more detail in section (d) below.

(d) temporary embargo for countries to purchase CERs, or embargo for
companies from these countries

 This could be achieved by amendments to the Kyoto Protocol and current CMP Decisions.

There already exist restrictions upon Annex I parties participating in the flexible mechanisms under Articles 6, 12 and 17 of the Kyoto Protocol, if they do not meet certain eligibility criteria.  These eligibility criteria are elaborated in subsequent CMP Decisions.  The eligibility criteria are the same for an Annex I Party to use CERs to meet its commitment[3] and to transfer or acquire ERUs, CERs, AAUs or RMUs[4].  The requirements are that the Party:

  • it is a Party to the Protocol;
  • its assigned amount has been calculated and recorded;
  • it has in place a national system for estimating anthropogenic emissions and removals of greenhouse gases;
  • it has a national registry to record and track the creation and movement of ERUs, CERS, AAUs and RMUs;
  • it complies with obligations to report to the Secretariat, including annual national inventory reports on emissions and removals and supplementary information on its assigned amount and acquisitions and transfers of AAUs, CERs, ERUs and other units.

There are also provisions for the UN Secretariat to maintain a public list of Annex I Parties which are not in compliance with the eligibility criteria.

If an Annex I Party is not in compliance with these eligibility criteria, this effectively means that private entities may not transfer CERs or other Kyoto units into or out of accounts in its national registry. Private entities which have been authorised by an Annex I Party to participate in emissions trading activities under Article 17 of the Kyoto Protocol may not transfer or acquire Kyoto units during any period of time in which the authorising Party does not meet the eligibility requirements or has been suspended[5] and there are equivalent provisions in respect of participation in CDM activities[6].

If fulfilment of funding obligations were added as an additional eligibility criterion (amendments to Articles 6, 12 and 17 of the Kyoto Protocol as well as the relevant Decisions would be required to ensure this had a firm legal basis), a Party’s failure to make the necessary payments would prevent it from participating in any international emissions trading and would also hinder emissions trading by private entities authorised by it or using its national registry.

However, the feasibility of this approach will depend to a large degree depend upon whether quantified funding obligations over a fixed period emerge from the Copenhagen negotiations and how easy it will be to verify that these funding obligations have been met.

(e) fines (triggered for direct payment or higher obligation in next
commitment period)

As noted above in section (b), we recommend further detailed legal investigation of whether it is possible, under international law, for bodies established under the Kyoto Protocol, UNFCCC or other treaty to be granted the power to impose fines or penalties on state parties.  As a minimum, the provisions of Article 18 of the Kyoto Protocol would require that such a fine, as a binding consequence of non-compliance, be adopted by an amendment to the Kyoto Protocol, and not just by a CMP Decision.

A precedent does exist under the Kyoto Protocol, in the context of emission reduction commitments, for the concept that if a Party fails to meet its obligations during one commitment period, it should have to make up the difference during the next commitment period, plus an additional effort.  It may be possible to extend this concept from emission reduction commitments to funding commitments.

Of course, the deferral of additional payments to a subsequent commitment period depends for its effectiveness on there being a subsequent commitment period.  Assuming fines to be legally possible, it may, therefore, be prudent to include drafting to the effect that, if there is no subsequent commitment period, the fines become payable immediately.

(f) discounting of AAUs already issued

The Kyoto Protocol does not currently provide for the discounting of AAUs, although the existing provision in Decision 2/CMP.1, stating that the CMP recognises that the Kyoto Protocol has not created or bestowed any right, title or entitlement to emissions of any kind on Annex I Parties does support the possibility of discounting.  An amendment to the Kyoto Protocol (or equivalent provision in any separate treaty) would be required in order to create a firm basis for such discounting.  The relevant provision could take the form of a relatively general statement in the amended Kyoto Protocol or separate treaty, providing for discounting in certain circumstances, with the details of the rules for discounting to be set out in subsequent CMP/COP decisions or equivalent.

In practice, this discounting option may present a number of technical difficulties.  The following policy points would need to be considered in setting the rules for discounting.

  • Would the discount apply to:
    • AAUs issued but remaining in their original registry, where the Party which issued them has failed to contribute funds;
    • All AAUs in the registry of the Party which has failed to contribute funds (including any AAUs it has purchased or obtained from other Parties); or
    • All AAUs issued by the Party, including any AAUs it has transferred to another Party (note that this could disadvantage a Party that has complied with all its obligations to provide funds)?
  • What level of discount would be applied, and would this discount be the same in every case, regardless of the amount which is owed?
  • When will the discount be applied?  Is it a temporary discount that will be disapplied when a Party becomes compliant again, or a discount applied at the end of the commitment period when a Party retires its AAUs and holdings of other units?
  • What will be the relationship between the discounting of AAUs and any Commitment Period Reserve provisions?  Will discounting AAUs have the effect of bringing a Party below its Commitment Period Reserve figure?
  1. Please advise on the extent to which any of the above can be achieved by amendments to present Kyoto Protocol arrangements, cross-references to the same in any LCA text, and the extent to which the above could be achieved by COP decisions rather than a legally binding treaty.

Amendments to the Kyoto Protocol

Article 18 of the Kyoto Protocol requires the CMP to approve compliance mechanisms and procedures, but provides that “any procedures and mechanisms… entailing binding consequences” must be adopted by means of an amendment to the Protocol, and cannot be established by a CMP decision alone.

The CMP has approved the current Kyoto compliance procedures by a decision (27/CMP.1).  However, we note that those procedures have not yet been adopted by an amendment to the Kyoto Protocol, which would make the consequences in decision 27/CMP.1 binding on Parties which ratified that amendment.  An amendment has been proposed, and has been considered, but no further progress has been made.  Technically, therefore, until they have ratified such an amendment, Parties to the Kyoto Protocol could dispute whether any current compliance sanctions imposed on them are entirely binding.

Under Article 18, a CMP decision would, technically, be inadequate for the purposes of establishing any of the enforcement options outlined above which involves a binding consequence.  Arguably, this includes all of the options examined here.  To avoid any dispute over the legal basis of compliance mechanisms, it would therefore be prudent for each of them to be achieved through an amendment to the Kyoto Protocol (assuming the continuance of the Protocol after 2012).

It should be noted that amendments to the Kyoto Protocol may not bind all those who are currently Parties to the Protocol.  Broadly, under the amendment process set out in Articles 20 and 21 of the Kyoto Protocol, amendments can be adopted by a three-fourths majority vote of the Parties.  However, Parties have the right not to accept an amendment and, as a consequence, not to be bound by it.

Further, of course, amendments to the Kyoto Protocol will not create compliance mechanisms or obligations which are binding on countries which are not, and do not become, parties to the Protocol.

Cross-references to the Kyoto Protocol in a new legal instrument

The answer to a previous question (question 10, attached) gives more information on the question of how the content of CMP Decisions under the Kyoto Protocol can be imported into a new, legal instrument.  In summary, this is technically possible and could be done either by:

  • making an explicit reference in the new legal instrument to an existing CMP Decision, endorsing and adopting it for the purposes of the new legal instrument; or
  • by incorporating such a Decision as an annex to the new legal instrument.

The latter may be more appropriate where extensive changes to an existing Decision are needed to adapt it to the new regimes established by the new legal instrument.  It would also avoid potential legal issues or uncertainties arising from references to existing procedures developed under an agreement to which not all countries were party.  If a compliance mechanism formed an annex to a new legal instrument, then (subject to any terms of that instrument to the contrary) it could become binding on the countries that accepted and ratified that instrument.

COP Decisions

On the status of COP Decisions, see the advice generated in response to query 17 (all three parts attached separately).

In broad terms, previous analysis has found that the legal status of decisions made by treaty bodies such as the CMP or COP is questionable, and they can lack clearly binding character under international law.

As discussed above, under the Kyoto Protocol, compliance procedures and mechanisms with binding consequences must be adopted by amendments to the Protocol itself, and not by CMP decision only.

In terms a potential new legal instrument under the UNFCCC (such as a new protocol) Article 7(2) of the UNFCCC provides that the COP should “make, within its mandate, the decisions necessary to promote the effective implementation” of the UNFCCC, establish subsidiary bodies and “exercise such other functions” as are required for the achievement of the objective of the UNFCCC.  These words are broad, but they do not specifically grant authority to the COP to create compliance mechanisms in respect of the new legal instrument.  As such, there would be considerable doubt over whether a compliance mechanism created by COP decisions under the UNFCCC would be legally binding.

Share of proceeds

In the context of the CDM, a “share of proceeds” from a CDM project (in the form of a percentage of the CERs issued in respect of the project) is deducted by the CDM Executive Board (EB) to be contributed towards adaptation costs.  A registration fee for the CDM EB’s administrative costs is also payable by project participants.

The provisions in the Kyoto Protocol or new legal instrument for a share of proceeds in respect of AAU transfers need not be lengthy or complex, but it should be clear what is intended.  A number of important points would need to be considered.

  • Would the share of proceeds take the form of a percentage of the AAUs which are the subject of the relevant transaction, or would it be a fee?  The former may be easier to enforce.
  • If a fee is charged, would this be a fixed fee per AAU transferred, or a percentage of the price paid by the recipient?  Note that the parties to an AAU transaction will be likely to prefer to keep the price <st1:policysmarttags.cwspolicytagaction_6 tagtype=”5″>confidential and not to make it public.
  • Will the fee or percentage of AAUs be payable by the transferor or the recipient?
  • Would the share of proceeds apply to the transfer of AAUs from the registry into which they were first issued (the originating registry) or to subsequent transfers as well?

Detailed provisions for this mechanism should cover practical issues (which body would collect AAUs, who would be responsible for the monetization of AAUs collected, etc).  Much of this could be set out in subsequent CMP decisions (or equivalent under a new treaty).  Care should be taken to ensure that these arrangements are consistent with the broader arrangements for funding adaptation and the requirements of the UNFCCC, in particular Article 11.

A practical difficulty with applying a share of proceeds mechanism in relation to AAUs is that they are issued by the Kyoto Party itself rather than by a central body such as the Executive Board, making enforcement and collection more difficult.  In light of this, it may be desirable to include procedures and powers for the ITL administrator to monitor AAU transfers.

Although policy considerations are outside the scope of this legal advice note, we note that the amount of the share of proceeds levied on the transfer of AAUs would depend on the extent to which the relevant country traded/transferred its AAUs.  If the country in question was not likely to have a surplus of AAUs to transfer then there would be no share of proceeds and thus no disincentive in terms of failing to meet financial obligations.

Use of existing Kyoto Protocol compliance architecture

We note that the compliance mechanisms established under the Kyoto Protocol do not, broadly, relate to non-compliances with obligations under Article 11 of the Kyoto Protocol.  Therefore, one option in considering future compliance tools in relation to the provision of adaptation funding, would (if the Kyoto Protocol remains in place) be to widen the remit of the Enforcement Branch to include non-compliances in relation to funding obligations, with specific enforcement consequences (possibly including some of the measures outlined above).  The viability of this approach will depend to a large extent on whether quantitative funding obligations emerge from the Copenhagen negotiations.

Payment of contributions under other international agreements

Enforcement of timely payment of contributions under international agreements is not a new problem.  One high-profile example is the difficulties which the UN has faced in obtaining payment of assessed contributions from its members, notably the US.  The UN Charter provides that:

A Member of the United Nations which is in arrears in the payment of its financial contributions to the Organization shall have no vote in the General Assembly if the amount of its arrears equals or exceeds the amount of the contributions due from it for the preceding two full years. The General Assembly may, nevertheless, permit such a Member to vote if it is satisfied that the failure to pay is due to conditions beyond the control of the Member.” [Chapter IV, UN Charter]

The equivalent in UNFCCC/Kyoto terms would be for a Party to be suspended from voting at COP or equivalent meetings if it has failed to pay a material part of its contribution to adaptation funds.

The UN also publishes information on unpaid contributions on its website, creating a degree of transparency.  This is also an approach that could be adopted under an amended Kyoto Protocol or new treaty.

The possibility of charging interest on, or index-linking, outstanding payments (a less stringent measure than fines for non-payment) has been considered, but to date no agreement has been reached to do this.


[1] (Article 12(9))

[2] paragraph 29 of the Annex to Decision 3/CMP.1

[3] paragraph 2 of the Annex to Decision 3/CMP.1

[4] paragraph 2 of the Annex to Decision 11/CMP.1

[5] paragraph 5 of the Annex to 11/CMP.1

[6] paragraph 33 of the Annex to 3/CMP.1