How Carbon Credits and Emissions Trading Schemes Are Accounted for under IFRS and US GAAP

Carbon markets create tradable rights and obligations tied to greenhouse-gas emissions. Entities may receive allowances for free, buy them, sell them, or use them to settle compliance obligations that arise as emissions are generated. Under IFRS (IAS 38, IAS 37, IAS 2, IFRS 9, IAS 20) and US GAAP (ASC 350, ASC 450, ASC 815, ASC 606/610-20 by analogy), practice focuses on: (1) what the allowance is (intangible inventory vs financial asset), (2) how the emission obligation is measured, and (3) how free allocations and sales are presented. Policy choices must be applied consistently and disclosed clearly.

·····

.....

How emissions trading schemes create assets and obligations.

Cap-and-trade programs (e.g., EU ETS, UK ETS, regional schemes) issue allowances that permit the holder to emit a specified quantity (often one ton of CO₂-e). Companies generate emission obligations as they operate, and must surrender allowances to regulators periodically. Allowances can be granted for free, purchased, banked, sold, or settled at compliance dates. This creates a moving mix of intangible assets (allowances held) and a provision (the compliance liability) tied to actual emissions.

In voluntary markets, credits (VERs) are often acquired for offsetting or resale. The accounting follows their intended use: consumption for compliance/offset, or trading for profit.

·····

.....

IFRS models for allowances and the compliance obligation.

Under IFRS, there is no single dedicated standard; entities apply existing literature consistently:

1) Measurement of allowances held.

• IAS 38 (Intangible assets) is commonly applied when allowances are held for own use (compliance/offset). Subsequent measurement is cost less impairment. If an active market exists, a revaluation model may be elected (policy choice) with changes through OCI for the intangible class.

• IAS 2 (Inventory) may be applied when the business model is broker-trader; measurement is typically fair value less costs to sell with changes in profit or loss.

• IFRS 9 applies when instruments meet the financial asset definition (e.g., forward contracts, options on allowances).

2) Recognition of the emission obligation (provision).

• Under IAS 37, a provision arises as emissions occur (present obligation, reliable estimate, probable outflow).

• Measure at the best estimate of the allowances that will be surrendered or the expected cash to acquire missing allowances. Many entities use current market prices on the reporting date for the uncovered portion.

3) Accounting for free allocations (government assistance).Two prevalent IFRS policy approaches (apply consistently):

• Deferred-income approach (IAS 20 analogue): recognize the free allowances at fair value with a deferred grant released to income systematically as emissions occur.

• Nil-cost approach: recognize free allowances at nil cost; no grant income; recognize the provision as emissions accumulate and derecognize allowances at their carrying amount on surrender.

Illustrative entries (IFRS — compliance user, deferred-income policy):On receipt of free allowances (FV 1,200,000)

• Debit: Emission Allowances (Intangible) 1,200,000

• Credit: Deferred Grant Income 1,200,000

As emissions occur (recognize obligation for period, 900,000)

• Debit: Emissions Expense 900,000

• Credit: Provision for Emissions 900,000

Amortize grant to match emissions (for 900,000 usage)

• Debit: Deferred Grant Income 900,000

• Credit: Other Income (Grant) 900,000

On surrender of allowances for the period (carrying amount 900,000)

• Debit: Provision for Emissions 900,000

• Credit: Emission Allowances (Intangible) 900,000

Illustrative entries (IFRS — purchased allowances for compliance):Purchase

• Debit: Emission Allowances (Intangible) 600,000

• Credit: Cash 600,000

Period-end obligation exceeds allowances on hand; top-up at market

• Debit: Emissions Expense 250,000

• Credit: Provision for Emissions 250,000

Broker-trader (IAS 2 at FVLCTS): remeasure inventory each period through P&L; no grant model.

·····

.....

US GAAP approaches for allowances and obligations.

US GAAP lacks a comprehensive Topic for compliance schemes; practice relies on analogy and consistent policies:

1) Allowances held.

• Often treated as indefinite-lived intangible assets under ASC 350 at cost, tested for impairment when indicators exist.

• Entities active in trading may treat allowances akin to inventory at the lower of cost and net realizable value, or mark-to-market if accounted for as commodities/derivatives (when contracts meet ASC 815).

• Forward purchases/sales, options, and swaps referencing allowances are analyzed under ASC 815 for derivative accounting.

2) Emission obligation.

• Recognized as a contingent liability under ASC 450 as emissions occur; measured at the best estimate (often current market price for shortfall allowances to be purchased).

• No general grant standard for for-profits; entities may analogize to IAS 20 or present other income when free allocations are received and conditions are met, applied consistently and disclosed.

Illustrative entries (US GAAP — cost model, free allocations at nil cost):On receipt of free allowances (at cost = 0)

• No entry (or disclose quantity and program terms).

Recognize obligation for period (shortfall at market 700,000)

• Debit: Emissions Expense 700,000

• Credit: Accrued Emissions Liability 700,000

Purchase and surrender of allowances

• Debit: Emissions Allowances (Intangible) 700,000

• Credit: Cash 700,000

• Debit: Accrued Emissions Liability 700,000

• Credit: Emissions Allowances (Intangible) 700,000

Trading activity (GAAP): gains/losses on sale of allowances generally in other income/expense; derivative contracts follow ASC 815 with fair value through earnings.

·····

.....

Comparative table: IFRS vs US GAAP.

Aspect	IFRS (IAS 38 / IAS 37 / IAS 2 / IAS 20)	US GAAP (ASC 350 / ASC 450 / ASC 815)
Allowances for own use	Intangible at cost (option to revalue if active market); impairment under IAS 36.	Intangible at cost; indefinite-lived, test for impairment when indicators arise.
Broker-trader inventory	IAS 2 at FVLCTS through P&L.	Policy-based; inventory/commodity or derivative accounting; fair value if under ASC 815.
Emission obligation	IAS 37 provision recognized as emissions occur; measured at best estimate (often market).	ASC 450 liability recognized as emissions occur; best estimate (often market).
Free allocations	Policy choice: deferred-income grant (IAS 20) or nil-cost; apply consistently.	No unified rule; common policies: nil-cost with no income, or analogize to grant income; disclose policy.
Derivatives on allowances	IFRS 9 at FVTPL.	ASC 815 at fair value through earnings.
Presentation emphasis	Separate line for provision; movement in allowances; grant income schedule.	Liability accruals; gains/losses on sales; derivative fair-value effects; policy disclosures.

·····

.....

Presentation and disclosures.

Balance sheet (IFRS — compliance user):

Assets	Amount (USD)
Intangible Assets – Emission Allowances	1,050,000
Property, Plant and Equipment	18,900,000
Inventory	4,300,000

Liabilities	Amount (USD)
Provision for Emissions (current)	820,000
Trade and Other Payables	2,400,000

Disclosure focus (both frameworks):

• Quantity of allowances held, emissions generated, and allowances surrendered during the period.

• Measurement policies for allowances and the obligation, including whether market prices were used at period-end.

• Grant policy for free allocations (deferred income vs nil-cost) and related amounts recognized in income.

• Sensitivity to carbon price changes and compliance timing.

• Derivative exposure and fair-value hierarchy for allowance contracts.

·····

.....

Journal entries for common scenarios.

1) Sale of surplus allowances (IFRS – intangible at cost):

• Debit: Cash 300,000

• Credit: Emission Allowances (Intangible) 200,000

• Credit: Gain on Sale of Allowances 100,000

2) Broker-trader remeasurement (IAS 2 FVLCTS increase 150,000):

• Debit: Inventory – Carbon Allowances 150,000

• Credit: Trading Income – Carbon 150,000

3) US GAAP derivative on allowances (FV loss 40,000):

• Debit: Loss on Derivative 40,000

• Credit: Derivative Liability 40,000

4) IFRS grant unwind to match emissions (recognize income):

• Debit: Deferred Grant Income 220,000

• Credit: Other Income – Government Grant 220,000

·····

.....

Impact on financial performance and ratios.

Carbon accounting affects operating costs, EBITDA, and working capital. Under the deferred-income model, grant income offsets compliance costs and smooths EBITDA; under nil-cost, expenses are more visible as provisions rise with emissions. Price volatility in allowance markets can shift margins for broker-traders (fair value through P&L) and alter the expected cash outflows for compliance users, impacting liquidity ratios and forecast accuracy.

Analysts evaluate:

• The coverage ratio (allowances held vs expected emissions).

• Sensitivity to carbon price changes.

• The magnitude and policy of grant recognition.

• The consistency of measurement across periods and schemes.

·····

.....

Operational considerations.

Finance teams must integrate emissions data systems with the general ledger to accrue provisions as activity occurs. Treasury should manage hedging or forward purchases to lock carbon costs. Policies for allowance classification, grant accounting, and derivative use should be documented, approved by governance bodies, and applied consistently. Internal controls should track units (quantities), vintage years, expiry, and registry movements to avoid misstatements at surrender dates.

Clear, consistent accounting enables stakeholders to understand how carbon policy translates into cash economics, operational incentives, and reported profitability.

·····

.....

FOLLOW US FOR MORE.

DATA STUDIOS

.....[datastudios.org]