An environmental justice group is suing California’s top air regulator over its sweeping overhaul of the state’s cap-and-invest carbon market program, claiming it illegally rushed a last-minute incentive for industrial polluters.
The lawsuit from the nonprofit Communities for a Better Environment alleges that the California Air Resources Board bypassed required environmental reviews when it approved a major update to the cap-and-invest program at the end of May. CARB violated the California Environmental Quality Act when it failed to meaningfully analyze the effects of the changes, according to the lawsuit, filed July 1 in Los Angeles County Superior Court.
It marks the first major lawsuit against the state’s signature program since legislators agreed last year to extend its life beyond the original 2030 expiration date to 2045.
Cap-and-invest requires large polluters such as power plants, oil refineries and other industrial facilities to purchase credits, or allowances, for each ton of carbon dioxide they emit, and lets them buy or sell their unused allowances at quarterly auctions. Each year fewer credits are created, lowering the total annual climate pollution in the state.
The update approved in May will remove 118 million allowances from the market by 2030, and 900 million after 2030, which officials say will keep California on its path to carbon neutrality by 2045.
But the air board also introduced a big change about six weeks ahead of the vote. The program will now include a new mechanism, the manufacturing decarbonization incentive, that allows polluters to apply for and receive up to 118 million new allowances in exchange for investments in decarbonization projects. Officials said this change is intended to discourage companies from leaving the state.
The lawsuit says this was introduced hastily and without following proper CEQA protocols. Specifically, it says the draft environmental impact assessment published in January was not revised to address the changes introduced in April. And the final environmental impact assessment was not posted on CARB’s website until May 26, two days before the hearing began.
“The amendments lock in decades of subsidies for polluting industries, without CARB having performed the required analysis of their wide-ranging environmental harms that would empower decisionmakers to make a fully informed determination about the wisdom of these significant changes,” the suit says.
It asks the court to force CARB to withdraw its approval of the plan, redo its analysis and approve revised regulations.
In a statement, CARB spokeswoman Lindsay Buckley said the agency “follows all applicable laws when adopting or amending regulations and the recent cap-and-invest rulemaking was no exception.”
“This lawsuit does nothing to advance environmental protection — instead it attempts to undercut a critical climate program and creates market uncertainty that harms revenue potential for community investments,” Buckley said. “We stand firmly behind our work and are confident in our ability to fully and vigorously defend ourselves.”
Some board members did express hesitation ahead of the vote. The board ultimately agreed to adopt the manufacturing decarbonization incentive, but committed to conducting additional workshops and evaluations of the program before issuing any allowances for it.
“The work does not stop here with this vote,” CARB chair Lauren Sanchez said during the meeting, adding that the board looks forward to “additional analysis, and guardrails and proposals regarding the [incentive].”
Critically, the lawsuit also notes that the plan threatens cap-and-invest revenue, which is used to fund housing, transit, and clean air and water projects in the state through the Greenhouse Gas Reduction Fund. An analysis from the Legislative Analyst’s Office found that the new incentive program will amount to the loss of $2 billion annually for the fund.
The amendments “significantly threaten both California’s ability to achieve its emissions reductions targets as well as the state’s ability to continue providing the environmentally beneficial programs it has funded through its allowance auctions,” the lawsuit says.
The losses are likely to hit low-income communities and communities of color hardest, as they are already disproportionately affected by air pollution, extreme heat and poor air quality, the suit says.
Ethan Elkind, director of the Climate Program at UC Berkeley’s Center for Law, Energy and the Environment, who is not involved in the suit, said the most compelling question it raises is whether the new incentive program creates a significant effect that wasn’t analyzed under the CEQA documentation.
The answer will primarily center around its environmental impact — and whether giving away new free allowances will lead to fossil fuel pollution or air pollution that otherwise would not happen, Elkind said.
The court might also consider the financial effects of the change, and whether less money for transit, water and other project will also be damaging to the environment.
He hesitated to predict how the case will play out, noting that he could see the court agreeing to seek out more facts or opting not to micromanage CARB’s allowance decisions.
“It’s a big, sprawling complicated program,” Elkind said of cap-and-invest. “And this is a big change to it, so I wouldn’t be surprised either way.”
The program was groundbreaking when it launched in 2013. It has delivered $35 billion for climate projects in California since its inception.
But it has also faced legal challenges from environmental justice groups, businesses associations and nonprofits who argued over its CEQA compliance, carbon offsets and overall structure in the program’s early days. In those cases, the courts largely sided with CARB and its authority to design and implement the program.
One 2009 case, in which Communities for a Better Environment was also a plaintiff, argued in part that the program would lead to disproportionate pollution in vulnerable communities. In response, the court paused it in 2011 and forced CARB to rewrite its environmental review before allowing the program to proceed in 2012.
“Environmental justice groups have always been upset with cap-and-trade because their constituency are the communities surrounding these facilities, and they view cap-and-trade as a way for these facilities to buy their way out of having to reduce the pollution,” Elkind said.
Lauren Gallagher, NorCal associate attorney for Communities for a Better Environment, said in a statement that CEQA amounts to an “environmental and public health bill of rights” for Californians, and that it requires policymakers to understand major environmental projects before they are approved.
“[W]hen CARB fails to vet these changes under CEQA, our communities lose out on the strategies and investments we are counting on to achieve California’s climate goals, protect health, and promote affordability for working families,” she said.
The lawsuit is playing out against the backdrop of rising fuel prices and concerns about how the cap-and-invest program will affect gasoline prices in the state. Two major refineries have announced exit plans in recent years, including Valero’s Benecia refinery and Phillips 66’s Los Angeles refinery, which shut down in 2025.
