Carbon Credits FAQ

A carbon credit is a certified and transferable instrument representing one tonne of carbon dioxide equivalent (tCO₂e) of greenhouse gas emissions that has been prevented from entering the atmosphere or greenhouse gases removed from the atmosphere. The carbon dioxide equivalent of greenhouse gases other than carbon dioxide (e.g., methane, nitrous oxide or fluorinated gases) is determined based on the amount of heat the gas traps in the atmosphere over time relative to carbon dioxide (i.e., its global warming potential). Carbon credits, also referred to as carbon offsets, are found in the voluntary carbon market. In the compliance or regulated carbon market, emission allowances (also known as carbon allowances) is a term used for a certificate or permit that represents the legal right to emit one tonne of carbon dioxide equivalent greenhouse gas emissions. For more information on the two types of carbon markets, please see the question below “What are the carbon markets?” 

Carbon credits are typically generated from offset projects, which can be grouped into two broad categories: (i) Avoidance / Reduction (activities that avoid or reduce greenhouse gas emissions); and (ii) Removal / Sequestration (activities that remove or sequester greenhouse gases). Both of these categories may involve technology-based solutions or nature-based solutions. Examples of Avoidance / Reduction activities include preventing deforestation, forest degradation or land conversion; improving forestry practices; deploying fuel-efficient cookstoves and water filtration devices; improving energy efficiency or avoiding landfill waste and methane emissions; and reducing emissions from farming practices. Avoided deforestation, whether involving forests, coastal areas or savanna-type areas involving avoided conversion of grasslands and shrublands (“ACoGs”) use the Reducing Emissions from Deforestation and Forest Degradation (“REDD+”) mechanism developed by the United Nations Framework Convention on Climate Change.

Removal / Sequestration projects can involve nature-based activities, such as reforestation or afforestation that use trees to sequester and store carbon, or technology-based activities, such as direct air carbon capture and storage (“DACCS”) or bioenergy with carbon capture and storage (“BECCS”), including biochar.

A carbon credit project can have positive impacts on the environment, local communities and biodiversity that go beyond their emission reductions or removals, which is referred to as “co-benefits”. These impacts can include protecting endangered species or providing tangible benefits to the local communities, or other activities which advance the United Nations Sustainable Development Goals.

A carbon credit stream is a contractual agreement whereby Carbon Streaming, as the stream purchaser, makes an upfront deposit (in the form of cash, shares or other consideration) in return for the right to receive all or a portion of the future carbon credits generated by a project or an asset over the term of the agreement. The project partner or owner may use the upfront deposit to fund the development, expansion or operation of a project or for general corporate purposes.

Carbon Streaming also makes an additional ongoing delivery payment per carbon credit to the project partner or owner when the carbon credits are sold. A portion of the stream payments made by Carbon Streaming often flow back to the project to advance multiple United Nations Sustainable Development Goals in benefit of the surrounding communities.

For additional information on how carbon credit streaming works, please see our video illustrating the process.

The Kyoto Protocol, which went into force on February 16, 2005, operationalized the United Nations Framework Convention on Climate Change by having countries commit to limit and reduce their greenhouse gas emissions in accordance with agreed individual targets. It also served to pioneer new approaches for fighting climate change and two broad types of carbon markets emerged: compliance and voluntary.

Compliance markets are where entities obtain and retire emission allowances, credits or permits in order to comply with a regulatory act. A compliance carbon market often takes the form of an emissions trading system (ETS), also known as a cap-and-trade program. ETSs are created and regulated by national, subnational or regional jurisdictions. Global compliance carbon markets more than doubled in 2021 to reach approximately US$900 billion in transaction value, which was nearly a fivefold increase in three years. The European Union ETS was the world’s first ETS and today remains the largest compliance carbon market by transaction value and volume, representing approximately 90% of global transacted value in 2021 (it was also the largest ETS by covered emissions until China launched its national ETS in July 2021).

The voluntary carbon markets function outside of the jurisdictional compliance markets and allow corporations, governments, asset managers and individuals that have voluntarily agreed to compensate for their greenhouse gas emissions by purchasing carbon credits in order to achieve their sustainability goals. Carbon credits are purchased and then “retired” by the purchaser to compensate for their emissions while pursuing their decarbonization strategy or neutralize residual emissions in order to reach net-zero. The verification, issuance, transfer and retirement of voluntary carbon credits occurs through a registry maintained by a recognized standard body, such as Verra or Gold Standard. Currently, the voluntary markets represent a small portion of the total carbon market, with approximately US$2 billion in trades in 2021.

An infographic explaining carbon markets can be found here.

Voluntary carbon credits help mobilize finance into projects that reduce or remove greenhouse gas emissions in the atmosphere. Carbon credit projects aim to make a significant and meaningful contribution to climate action and limit global temperature from rising to 1.5˚C above pre-industrial levels, while also supporting the achievement of the United Nations Sustainable Development Goals (SDGs). Carbon credits can accelerate innovation and uptake of new technologies needed for the planet to reach net-zero.

The highest standards of ethics, sustainability and transparency are essential for the future development of the voluntary carbon market. Work is currently under way through groups such as the Integrity Council for the Voluntary Carbon Market (ICVCM), International Emissions Trading Association (IETA) and the Voluntary Carbon Markets Integrity Initiative (VCMI) to establish globally consistent standards and best practices on the generation and use of voluntary carbon credits. In 2021, Carbon Streaming became a member of IETA. With its preeminent position in the carbon markets, acceptance to IETA provides members with direct access to industry intelligence, participation in international discussion and insight into policy. As an IETA member, Carbon Streaming is part of an expert collective that ensures carbon markets function fairly and transparently as they continue to scale.

Carbon credits are seen as a complementary tool to be used alongside broader decarbonization efforts of corporations, organizations and individuals to achieve their net-zero or carbon-neutral goals. Carbon credits can compensate for unabated emissions while a company pursues a science-aligned emissions mitigation strategy and neutralize residual emissions in order to reach net-zero.

The prices of carbon credits are primarily driven by the levels of supply and demand in the markets. There are several factors that determine the price paid for a particular voluntary carbon credit including: project activity (such as forestry, renewable energy, waste disposal or carbon capture), location, vintage (the year the emissions were reduced or removed), verification standard and associated co-benefits (such as job creation, water conservation or preservation of biodiversity).

Sales in the voluntary carbon market are conducted through multiple distribution channels. The majority of volumes to date have transacted ‘over the counter’ (OTC) between buyer and seller. These OTC sales are either conducted directly with the ‘end user’ of the carbon credit (i.e., the entity that will use the carbon credit towards its carbon neutrality or net zero goals) or through intermediaries. End users are large organizations, SMEs and individuals who purchase and retire credits, typically using them to compensate for emissions to advance or achieve a carbon neutral or net zero commitment. Intermediaries include brokers, corporate trading desks, voluntary market specialists and sustainability consultancies who link sellers and buyers.

As the voluntary carbon market matures, other sales channels are emerging. The most prominent of these are exchanges, which provide a digital marketplace for the trading of carbon credits and aim to increase liquidity in the market and reduce transaction costs. Retail sales channels whereby individuals or organizations can purchase carbon credits directly or have carbon credits retired on the purchaser’s behalf are also emerging within the industry. 

Across the sales channels, there are two predominant contract structures. The first is a spot transaction which involves the sale of issued carbon credits to a buyer in return for payment. The second is a forward transaction which involves the sale of carbon credits in the future before they are issued. Payment in forward contracts is generally either fixed at the point of contracting or determined at the point of delivery based on the market value of the credits at that time.

Most voluntary carbon credits today are issued by distinct issuing bodies, known as the voluntary carbon standards. Each carbon standard has unique rules that all projects must follow in order to be certified. A number of standard bodies have emerged with the intent to increase credibility in the voluntary carbon market. Some of the more commonly used and internationally recognized standards include the Verified Carbon Standard (VCS) administered by Verra, the Gold Standard, Puro.earth, Plan Vivo, American Carbon Registry and Climate Action Reserve.

Standard bodies set the project design, implementation, monitoring, verification and reporting criteria for a carbon credit project. The project’s emissions avoidance, reduction or removal activities and/or environmental and social co-benefits are then certified or verified against these criteria.

One of the major roles of standard bodies is to outline approved carbon accounting methodologies for carbon credit generation. The methodology applied during the initial project design stage will directly influence the duration of the crediting period for the project as well as expected annual carbon credit generation. The project partner is responsible for, among other things, selecting a methodology that is appropriate for the project, making sure the project conforms to the requirements of the methodology, engaging in the registration process with the applicable standard body, and cooperating in the annual verification process that ensures the continued generation of credits over the life of the project.

The standard bodies help uphold the integrity of carbon credit projects by subjecting them to a rigorous set of rules and requirements. Once projects have been certified as meeting the requirements of the applicable standard and one or more of its methodologies, project partners can be issued tradable carbon credits by the standard body.

Carbon credits that are certified or verified by recognized standards are generally required to meet the following criteria:

• Real, quantifiable and measurable. The emission reductions or removal must be realized and quantified based on a credible baseline using a recognized methodology expressed using standard greenhouse gas metrics. For example, a range of factors are considered when estimating carbon credits from improved forest management, including existing timber inventory (e.g., age, species, volume), forest management, sustainability constraints, timing of harvests and regeneration strategies, among others. They also cannot be double counted or double claimed.
• Additional. The project activity must be additional. That is, it would not have existed in the absence of carbon market initiatives and the project reduces emissions or removes carbon dioxide from the atmosphere beyond a business-as-usual scenario. For example, claiming carbon credits from the reduction of methane from a landfill that was required by regulation to capture and destroy that methane would not be considered additional. Similarly, using carbon credits to fund an activity where other similar activities do not require carbon financing, or have significant non-carbon income, may not be considered additional.
• Permanent. Carbon credits must represent emission reductions or removals that will not be reversed after the credit is issued. If non-permanence is a material issue (e.g., wildfires) then buffer pools will usually be put in place to minimize that risk and account for reversals should they occur. For projects subject to permanence risk, a risk rating is assessed during the validation process and an associated number of credits withheld for each year to create a buffer account.
• Verified. The emission reductions or removals from the project should be monitored, reported and verified by a qualified, independent third-party (sometimes referred to as a ‘validation and verification body’ (VVB)), in accordance with the applicable standard.
• Leakage accounted for and minimized: The carbon credit project should not lead to an increase in emissions elsewhere, or safeguards must be in place to monitor and mitigate any increase that occurs (e.g., leakage deductions from the emission reductions measured).
• Do no net harm: Projects should not violate laws, regulations or treaties, and environmental and social safeguards must be in place to minimize detrimental effects.

The Integrity Council for the Voluntary Carbon Market (ICVCM), which was formed to carry on the work of the private sector-led initiative the Taskforce on Scaling Voluntary Carbon Markets, was tasked with the establishment of the Core Carbon Principles (CCPs), a set of threshold standards to set a global benchmark for carbon credit quality.  On July 27, 2022, the ICVCM released a draft of its CCPs, which aim to provide a “credible, rigorous, and readily accessible” global threshold standard for high-integrity carbon credits that create real, additional and verifiable climate impact, in line with the 1.5°C goal of the Paris Agreement, while avoiding negative environmental and social side effects. The ICVCM also released drafts of an Assessment Framework, which provides guidance on whether carbon credits meet the CCPs’ criteria, and an Assessment Procedure, which outlines a process for approving and tagging credits. A two-month comment period ends on September 27, 2022.  The ICVCM aims to publish official versions of the CCPs, Assessment Framework and Assessment Procedure in Q4 2022 and start assessing carbon-crediting programs and methodologies in the first quarter of 2023.