Phase Two of the carbon tax will be implemented from 1 January 2026 until 31 December 2030 (Phase Two).1
Despite undertakings made in the carbon tax discussion paper published by National Treasury on 13 November 2024 (the Discussion Paper), the policy position heading into 2026 differs in several material respects from those proposals. This shift is reflected in the National Treasury’s official annual macro-fiscal policy statement, tabled alongside South Africa’s national budget (the 2025 Budget Review), as well as in the Draft Taxation Laws Amendment Bill, 2025 (published on 16 August 2025) (TLAB).
This article considers the various allowances available under the Carbon Tax Act 15 of 2019 (CTA) and indicates where the current position diverges from the proposals set out in the Discussion Paper. The intention is to provide clarity on (i) which allowances are retained, (ii) which allowances have been adjusted, and (iii) where taxpayers should expect material compliance and cost implications leading into Phase Two.
Kinds of emissions
To understand the applicable allowances, it is necessary to briefly outline the categories of emissions as set out in the CTA. The CTA addresses three kinds of greenhouse gas emissions, divided into:
- Fuel combustion emissions - The term "combustion" is defined in section 1 of the CTA to mean the exothermic reaction of a fuel with oxygen. These emissions are associated with the burning of fuels such as gas, coal or wood to generate heat for use in a manufacturing or industrial process.2
- Industrial process emissions - The term "industrial process" is defined in section 1 of the CTA to relate specifically to a manufacturing process that chemically or physically transforms materials.3 These emissions arise directly from the industrial process itself and should be distinguished from emissions resulting from fuel combustion.4 They are commonly associated with industries such as cement production, steel making and petroleum refining.
- Fugitive emissions - The term "fugitive emissions" is defined in section 1 of the CTA as referring to the unintentional release of greenhouse gases into the atmosphere. Fugitive emissions occur through leaks, evaporation and venting or other unintended releases and are commonly associated with the processing, storage and transportation of liquid fuels and natural gases.5
Allowances
To appreciate the significance of the changes to the relevant allowances, a brief overview of each allowance type is set out below (reflective of the position as at the date of publication):
Table 1: Overview of CTA allowances (status at publication)
| Allowances Type | Maximum percentage | CTA Reference | Description |
Basic Tax-Free Allowance | 60% | section 7 | This allowance applies to all emissions, and its application is not subject to a qualifying investment.6 |
Industrial Process Allowance | 10% | section 8 | These allowances serve as a transitional measure designed to provide short- to medium-term relief for industries with hard-to-abate emissions. It targets sectors like cement, iron, steel, and glass, where emissions from core chemical processes are currently unavoidable due to technical or structural limitations.7 |
Fugitive Emissions Allowance | 10% | section 9 |
Trade Exposure Allowance | Up to 10% | section 10 (read with the Regulations on the Allowance in respect of Trade Exposure in respect of Carbon Tax Liability under section 10 of the CTA, published in Government Gazette No. 43451) | The trade exposure allowance is intended to mitigate the potential negative effects of the carbon tax on industry competitiveness. At present, this allowance is determined by the trade intensity of specific sectors or products, measured as the ratio between the monetary value of imports and exports and the total production of a sector or company. Firms operating in sectors with a trade intensity of a prescribed per cent or more are eligible for the full allowance of 10%.8 |
Performance Allowance | Up to 5% | section 11 (read with the Regulations on the Greenhouse Gas Emissions Intensity Benchmark prescribed for the purposes of section 11 of the CTA, published in Government Gazette No. 43452) | This transitional tax-free allowance was designed with a dual purpose: (i) to reward early adopters (who had already reduced emissions before the carbon tax was introduced) and (ii) to incentivise other firms to lower their carbon intensity compared to their industry peers.9 |
Carbon Budget Allowance | 5% | section 12 | A 5% allowance specifically granted to companies that voluntarily participated in the carbon budget system administered by the Department of Forestry, Fisheries, and the Environment (DFFE).10 This allowance was set to be available until 31 December 2024. |
Offset Allowance | Up to 5% or 10% | section 13 (read with the Regulations on Carbon Offsets under section 19 of the CTA, published in Government Gazette No. 42873 (as amended)) | The offset allowance provides firms with the flexibility to lower their carbon tax liability by investing in emission-reduction projects outside of their core taxable activities. The maximum offset permitted is capped at a percentage of total greenhouse gas emissions, with the limit set at 10% for combustion emissions and 5% for fugitive and industrial process emissions.11 |
Allowances and the Discussion Paper
The Discussion Paper sought to tighten the Phase Two regime by reducing blanket tax-free relief while sharpening behavioural incentives. In essence, National Treasury proposed: (i) reducing the basic allowance; (ii) expanding the role of offsets; (iii) removing the voluntary carbon-budget allowance as budgets become mandatory; (iv) introducing a higher rate for emissions above allocated budgets; (v) tightening the trade-exposure test; and (vi) migrating qualifying section 12L projects into the offset mechanism. The key proposals are summarised below.
Table 2: Key proposals in the 13 November 2024 Discussion Paper
| Allowance | Proposed change |
Basic tax-free allowance | Reducing the basic tax-free allowance by 10 percentage points in 2026, and then by 2.5 percentage points annually from 2027 through 2030.12 |
Carbon offsets | Increasing the offset allowance by 15 percentage points (capped at 20% for process/fugitive emissions and 25% for combustion emissions).13 |
Carbon budget allowance | The 5% tax-free allowance tied to carbon budgets will be removed as carbon budgets become mandatory from 1 January 2026.14 |
Carbon tax and carbon budget | From 1 January 2026, emissions exceeding an entity’s allocated carbon budget under the Climate Change Act 22 of 2024 (the Climate Change Act) would be taxed at a higher tax rate of ZAR 640 per tCO₂e.15 |
Trade exposure | From 2026, raise the trade-intensity threshold for the full 10% trade-exposure allowance from 30% to 50%. Sectors at or above 50% trade intensity would qualify for the full allowance.16 |
Section 12L tax incentive | Absorb the eligible section 12L projects under the Income Tax Act 58 of 1962 into the carbon offset mechanism.17 |
Against that backdrop, the table below reflects what government ultimately signalled for Phase Two in the 2025 Budget Review and what the TLAB has proposed to legislate.
Table 3: Phase Two allowance parameters
* The Discussion Paper proposed increasing the trade-intensity threshold from 30% to 50%.18 The 2025 Budget Review and TLAB reflect that the threshold remains 30%.19
** Treasury originally proposed increasing the performance allowance for combustion emissions to 10%20 but this does not appear in the final 2025 Budget Review or TLAB.21 On this basis, this model accounts for the allowance to be retained at 5%.
*** Section 12 is extended to 31 December 2025 per clause 59(1), deemed operative from 1 January 2025 per clause 59(2) of the TLAB.
The position leading into 2026
With the benefit of reviewing the 2025 Budget Review and the TLAB, the most likely position at the start of Phase Two, assuming no further deviation, is reflected in the table above, and is discussed in detail below.
Basic tax-free allowance
The basic tax-free allowance is maintained at 60% until 2030, without implementation of the proposed 10% reduction in 2026 or the further 2.5% annual reductions from 2027 to 2030 as outlined in the Discussion Paper.22
Carbon offset allowance
Phase Two retains offsets as a core compliance mechanism and modestly expands their use from 2026.
Section 12L of the Income Tax Act 58 of 1962, initially proposed to be absorbed into the carbon offset mechanism, will instead be extended to 1 January 2031 via clause 16 of the TLAB, with the amendment deemed operational from 1 January 2026 in terms of clause 16(2) of the TLAB. Standard prohibitions on double counting and eligibility requirements under the Offset Regulations continue to apply.
From 1 January 2026, the carbon offset allowance increases by 5 percentage points, up to: 10% for fugitive and process emissions; and 15% for combustion emissions. The increase is affected by amendment to Schedule 2 of the CTA through clause 62(1) of the TLAB, which operates from 1 January 2026 in terms of clause 62(2) of the TLAB.
Trade exposure allowance
The trade intensity threshold used to determine eligibility for the trade exposure allowance is retained at 30% and is not increased to 50% from 2026 as originally proposed in the Discussion Paper.23
Carbon budget allowance
The voluntary carbon budget allowance (5%) will sunset as carbon budgets become mandatory.
- The carbon budget allowance is extended until 31 December 2025 via amendment to section 12 of the CTA under clause 59 of the TLAB. Thereafter, the allowance will cease.
- The proposal to introduce a higher carbon tax rate of ZAR 640 per tCO2e on emissions exceeding such carbon budgets will be implemented through the insertion of section 5(5) of the CTA by clause 57 of the TLAB (with the amended definition of “carbon budget” introduced under clause 55).
- Building on the above, the insertion of section 14A of the CTA via clause 60 of the TLAB will result in taxpayers who exceed their carbon budgets being unable to utilise any allowances under Part II of the CTA in respect of emissions exceeding the carbon budget for the applicable tax period. Section 14A will take effect from a date determined by the Minister of Finance by notice in the Government Gazette in terms of clause 60(2) of the TLAB.
- Given the significant departure from the proposed position in the Discussion Paper, businesses should adjust their Phase Two modelling accordingly and should not rely on assumptions or advise based on the Discussion Paper proposals.
Phase Two policy appears to have stabilised relative to the position outlined in the Discussion Paper. The 2025 Budget Review retains the core transitional relief measures through to 2030, but pairs these with: (i) an expanded carbon offset allowance from 2026; and (ii) the introduction of a punitive ZAR 640 per tCO₂e for emissions that exceed an entity’s carbon budget once mandatory carbon budgets are in force. Boards and executive teams should ensure that internal carbon-tax memoranda, cost models and compliance strategies are updated to reflect the Phase Two parameters set out in the 2025 Budget Review and the TLAB.
