EU ETS free allocation for CBAM sectors reduces from 97.5% in 2026 to 0% by January 1, 2034, creating a nine-year cost escalation that transforms CBAM from a minor compliance cost into a defining competitive variable for importers of steel, cement, aluminium, fertilizers, electricity, and hydrogen. The CBAM factor (the percentage of embedded emissions that triggers a certificate obligation) rises in nine steps, with the steepest single-year jump occurring between 2029 and 2030, when it increases from 22.5% to 48.5%. Understanding this schedule is the foundation of any multi-year CBAM compliance strategy, because the net certificate cost at full phase-out is 40 times larger than in the first year.
What is the link between free allocation and CBAM? Free allocation and CBAM are directly coupled by design. As long as EU domestic producers receive EU ETS allowances at no charge, the EU carbon border adjustment mechanism applies only to the fraction of emissions that are no longer covered by free allocation. The CBAM factor in any given year equals the percentage by which free allocation has been reduced. In 2026, that factor is 2.5%, meaning only 2.5% of a product's embedded emissions generate a CBAM certificate obligation. By 2034, the factor reaches 100%, and the full embedded emissions volume requires certificate coverage.
This article presents the complete phase-out schedule, year-by-year net cost examples for BF-BOF steel, and the planning implications for importers who must build this cost curve into procurement and supply chain decisions made today.
What Is EU ETS Free Allocation and Why Does It Phase Out?
EU ETS free allocation is the provision of EU Emissions Trading System allowances to domestic EU producers at no charge, established under Article 10a of Directive 2003/87/EC to protect energy-intensive industries from carbon leakage before a global carbon pricing system existed. Free allocation historically shielded EU steelmakers, cement producers, aluminium smelters, and fertilizer manufacturers from the full cost of EU ETS compliance, preventing them from being undercut by competitors in countries with no carbon price.
Free allocation creates an asymmetry. A Chinese steelmaker exporting to the EU pays no carbon price at all, while a competing EU producer pays a reduced ETS cost (after free allocation reduces the net liability). The gap is smaller than full ETS exposure but still represents a competitive disadvantage for EU producers compared to non-EU producers with zero carbon costs. CBAM is the mechanism designed to close this gap by applying a carbon cost to imports. Free allocation phases out in parallel with CBAM phasing in, so the two mechanisms maintain a consistent competitive signal throughout the transition.
The legal mandate for the phase-out comes from Article 10a(1a) of Directive 2003/87/EC as amended, which ties the free allocation reduction schedule directly to the CBAM regulation entering its definitive phase on January 1, 2026. The phase-out is not discretionary. It is legally fixed across all nine years of the schedule.
Caption: The EU ETS free allocation phase-out runs across nine years, with the steepest acceleration occurring at the 2029-to-2030 transition.
Complete EU ETS Free Allocation Phase-Out Schedule 2026–2034
The 10-year phase-out schedule, codified in Article 10a(1a) of Directive 2003/87/EC, sets precise CBAM factors for each calendar year. The table below shows the CBAM factor, the remaining free allocation percentage, and the net CBAM cost per tonne of BF-BOF steel at the April 2026 reference EU ETS price of approximately €70 per tonne of CO₂.
The net cost calculation uses the standard formula: gross CBAM cost (emission factor × ETS price) multiplied by the CBAM factor. For BF-BOF steel with an emission factor of approximately 2.0 tonnes of CO₂ per tonne of steel and an ETS price of €70 per tonne of CO₂, the gross CBAM cost is €140 per tonne of steel. The net cost in any year is €140 multiplied by that year's CBAM factor.
| Year | CBAM Factor | Free Allocation Remaining | Net CBAM Cost: BF-BOF Steel (€70 ETS) |
|---|---|---|---|
| 2025 | 0% | 100% | €0.00/t |
| 2026 | 2.5% | 97.5% | €3.50/t |
| 2027 | 5% | 95% | €7.00/t |
| 2028 | 10% | 90% | €14.00/t |
| 2029 | 22.5% | 77.5% | €31.50/t |
| 2030 | 48.5% | 51.5% | €67.90/t |
| 2031 | 61% | 39% | €85.40/t |
| 2032 | 73.5% | 26.5% | €102.90/t |
| 2033 | 86% | 14% | €120.40/t |
| 2034 | 100% | 0% | €140.00/t |
Source: Article 10a(1a), Directive 2003/87/EC as amended. ETS price reference: market data, Q1 2026 range €66–90/tCO₂, approximately €70 late March 2026. Cost figures fluctuate with ETS price.
The 2026 net cost of €3.50 per tonne of BF-BOF steel appears modest. The 2034 figure of €140 per tonne (at today's ETS price) represents a 40-fold increase. Companies that treat 2026 as a "low-cost year" without planning for the escalation face abrupt cost increases at the 2029-to-2030 transition, where the annual net cost for BF-BOF steel jumps from €31.50 to €67.90 in a single calendar year.
How the CBAM Factor Interacts with Certificate Obligations
The CBAM factor directly reduces the number of CBAM certificates an authorized declarant must surrender. Under the SEFA methodology established by Implementing Regulation (EU) 2025/2620, the certificate obligation for any given import is calculated by multiplying the embedded emissions of the imported goods by the current CBAM factor. The remaining free allocation effectively creates a deduction, but only because competing EU producers still receive a proportional share of free ETS allowances.
This coupling has a specific consequence: as EU domestic producers see their free allocation shrink each year, their own carbon cost increases. CBAM tracks that increase by raising the CBAM factor in parallel. The competitive relationship between EU producers and non-EU exporters therefore remains approximately stable throughout the phase-out, which is the stated policy objective. What changes is the absolute cost level for all parties.
The SEFA calculation is applied at the sector-specific benchmark level, meaning the reduction in CBAM certificate obligation is tied to sector benchmarks, not to the free allocation received by any specific EU producer. Importers cannot calculate their reduction on the basis of which EU company they are "competing with." The methodology is sector-wide and published annually by the European Commission.
How does the CBAM factor affect multi-year contract pricing? Contracts signed in 2026 at import prices that assume the 2026 CBAM cost will be structurally underpriced by 2029. A three-year supply contract for BF-BOF steel that prices in a €3.50/t CBAM cost in 2026 will face a €31.50/t cost in 2029 if the same price mechanism applies without adjustment. Procurement teams must model the full phase-out schedule into any contract with a term extending beyond 24 months.
Net Cost Impact by Sector: 2026 vs 2030 vs 2034
The free allocation phase-out affects CBAM sectors at different rates depending on their emission intensity. The six CBAM sectors covered by Regulation (EU) 2023/956 carry substantially different emission factors, meaning the absolute cost escalation varies across sectors even though the CBAM factor schedule is identical for all.
The table below compares net CBAM costs per tonne at three key milestones in the phase-out, using an EU ETS price of €70 per tonne of CO₂.
| Sector / Product | Emission Factor (tCO₂/t) | Net Cost 2026 (2.5%) | Net Cost 2030 (48.5%) | Net Cost 2034 (100%) |
|---|---|---|---|---|
| Steel BF-BOF | ~2.0 tCO₂/t | €3.50/t | €67.90/t | €140.00/t |
| Steel EAF scrap | ~0.5 tCO₂/t | €0.88/t | €17.00/t | €35.00/t |
| Cement Portland | ~0.83 tCO₂/t | €1.45/t | €28.18/t | €58.10/t |
| Primary aluminium | ~1.5 tCO₂/t | €2.63/t | €50.93/t | €105.00/t |
| Urea fertilizer | ~2.5 tCO₂/t | €4.38/t | €84.88/t | €175.00/t |
| Grey hydrogen (SMR) | ~10.4 tCO₂/t | €18.20/t | €352.60/t | €728.00/t |
All costs are gross before any Article 9 deduction for carbon prices paid in the country of origin. Grey hydrogen uses a midpoint emission factor of 10.4 tCO₂/t. Figures fluctuate with ETS market price.
Grey hydrogen stands apart from other CBAM sectors because its emission factor is approximately 4 to 5 times higher than BF-BOF steel. At 2034 full phase-out and a conservative €70 ETS price, grey hydrogen imported into the EU carries a CBAM cost of €728 per tonne of hydrogen product. This figure rises proportionally with ETS price. At the analyst consensus ETS price of €126 per tonne for 2030, the grey hydrogen CBAM cost in 2030 already reaches €635 per tonne at the 48.5% factor.
Caption: Net CBAM costs for BF-BOF steel and primary aluminium remain low through 2028 before accelerating sharply at the 2029-to-2030 transition.
The 2029–2030 Free Allocation Cliff: Why It Requires Early Planning
The 2029-to-2030 transition is the steepest single-year acceleration in the entire phase-out schedule. The CBAM factor more than doubles in one year, rising from 22.5% to 48.5%. For BF-BOF steel, this translates to a net cost increase of €36.40 per tonne of steel in a single calendar year (from €31.50 to €67.90 at €70 ETS). For primary aluminium, the jump is €27.23 per tonne. These increases occur simultaneously across all CBAM sectors in all product categories.
Three planning implications follow from the 2029-to-2030 cliff:
- Supply chain decarbonization decisions that require 3 to 5 years to implement (switching to low-carbon steel suppliers, negotiating verified emission data from producers, investing in production process changes) need to begin no later than 2026 to take effect before 2030.
- Financial forecasting models that use 2026 or 2027 CBAM costs as the "run rate" will systematically underestimate 2030 and beyond. The correct approach is to model all nine years of the schedule using a range of ETS price scenarios.
- Companies importing from countries with their own emissions trading systems, such as South Korea's K-ETS or the emerging Chinese ETS sectors, can reduce the net CBAM obligation through Article 9 deductions. The deduction value at the 2030 CBAM factor is 19 times larger than the same deduction at the 2026 factor, making the Article 9 mechanism materially important from 2029 onward.
The 2026-to-2029 period provides a window during which compliance processes can be built, suppliers can be qualified, verification arrangements can be established, and contract structures can be renegotiated. Companies that use this window strategically reach 2030 with lower exposure than those who treat the early years as negligible.
How Free Allocation Phase-Out Affects EU Domestic Producers
EU domestic producers in CBAM sectors face the same free allocation reduction as the external CBAM factor increases. An EU steelmaker that received, for example, 1,000 free ETS allowances in 2025 receives only 975 in 2026 (a 2.5% reduction), 950 in 2027, and 0 in 2034. This means EU producers face rising carbon costs in absolute terms, independent of what happens to CBAM for importers.
The intended outcome is a level playing field at the margin: as EU producer costs rise due to free allocation reduction, non-EU exporter costs rise in parallel through increasing CBAM certificate obligations. Neither side receives a structural advantage through the transition. EU industry associations, including those representing ArcelorMittal and Thyssenkrupp in steel and HeidelbergMaterials and Holcim in cement, have acknowledged this design while expressing concern about a separate issue: the reverse carbon leakage problem.
Reverse carbon leakage occurs when EU producers export to non-EU markets. An EU steelmaker exporting to Japan or South Korea competes against local producers who pay no equivalent carbon price, while the EU producer's ETS costs rise as free allocation decreases. CBAM provides no rebate or compensation for this export exposure. The Temporary Decarbonization Fund proposed in COM(2025)990 of December 17, 2025, would address part of this gap using 25% of CBAM revenues during 2028-to-2029, covering the 2026-to-2027 production period, but this proposal remains pending as of April 2026.
CBAM Free Allocation and the SEFA Methodology
The reduction in CBAM certificate obligations is calculated through the SEFA (Specific Embedded Free Allocation) methodology established in Implementing Regulation (EU) 2025/2620. SEFA converts the abstract CBAM factor percentage into a concrete certificate reduction for each product category.
The methodology uses sector-specific benchmarks to determine what free allocation the average EU producer in each sector receives. These benchmarks are published by the European Commission and updated periodically. The CBAM certificate reduction for any import is calculated as follows: the embedded emissions of the imported goods are multiplied by the sector benchmark's CBAM factor, producing the net certificate obligation. This approach ensures that the CBAM cost on imports reflects the actual net ETS cost on equivalent EU domestic production, not a theoretical gross cost.
The SEFA methodology matters for three reasons. First, it confirms that CBAM is not a simple carbon tariff on gross emissions. It is a net adjustment calibrated to domestic competitive conditions. Second, it means the CBAM certificate obligation for the same product can differ between importers based on the sector benchmark applied, and between years as the benchmark updates. Third, understanding how SEFA reduces certificate obligations enables importers to accurately model their CBAM cost burden and identify any overcalculation in preliminary compliance estimates.
How Free Allocation Reduction Connects to CBAM Compliance Planning
Does free allocation phase-out change what importers must do in 2026?
The free allocation phase-out changes the financial scale of CBAM obligations but does not change the compliance steps required. Importers must obtain authorization as an authorized CBAM declarant (application deadline March 31, 2026 for those wishing to import during the definitive phase), track embedded emissions across their supply chains, arrange third-party verification of those emissions, and manage their certificate position quarterly. The CBAM factor determines how many certificates they surrender annually, but the process is identical whether the factor is 2.5% or 100%.
Is free allocation still relevant in 2026 if the CBAM cost is so small?
Yes, for compliance system construction. Building the data flows, supplier relationships, and verification processes in 2026 at low cost is structurally cheaper than building them in 2030 under full financial pressure. The 2026 CBAM cost for a mid-size steel importer handling 10,000 tonnes annually is approximately €35,000 at the reference ETS price. The 2030 cost for the same volume is approximately €679,000. Firms that invest in compliance infrastructure in 2026 distribute that fixed cost across 9 years rather than absorbing it as a shock when the cost becomes material.
What happens if a company does not obtain authorized declarant status?
An importer who brings CBAM goods into the EU without authorization faces penalties of €300 to €500 per tonne of CO₂ equivalent under Article 26(2) of Regulation (EU) 2023/956 as amended by Regulation (EU) 2025/2083. At the 2030 CBAM factor of 48.5% and a BF-BOF steel emission factor of 2.0 tCO₂/t, the unauthorized penalty on a 10,000-tonne steel import reaches approximately €2.91 million to €4.85 million, compared to a legitimate CBAM certificate cost of approximately €679,000. The penalty multiplier (3 to 5 times the standard certificate obligation) is designed to eliminate any economic incentive for non-compliance.
Free Allocation Phase-Out Across the CBAM Regulatory Framework
The free allocation phase-out is one component within the broader CBAM regulatory architecture. The CBAM regulation (Regulation (EU) 2023/956 as amended by Regulation (EU) 2025/2083) links the certificate obligation directly to the ETS Directive amendment mandating the free allocation reduction. This legal coupling means that any future change to the free allocation schedule (for example, if a future EU Council decision altered the phase-out timeline) would require amendment of both the ETS Directive and the CBAM Regulation simultaneously.
The EU ETS and CBAM certificate prices are directly connected through this architecture. CBAM certificate prices are set as the quarterly average of EU ETS auction clearing prices (in 2026) and as the weekly average of EU ETS auction closing prices (from 2027 onward) under Implementing Regulation (EU) 2025/2548. This means that ETS price volatility transmits directly to CBAM certificate costs. An ETS price of €100 per tonne in 2030 would increase the BF-BOF steel net CBAM cost at the 48.5% factor to €97.00 per tonne, compared to €67.90 at €70 ETS.
How Are Embedded Emissions Calculated for CBAM Certificate Purposes?
Understanding how embedded emissions are calculated is necessary before any free allocation cost model can be built. The embedded emissions figure used to calculate CBAM certificate obligations comes from one of two sources: verified actual emissions from the production installation, or default values published in Implementing Regulation (EU) 2025/2621. Default values carry a mark-up of 10% above country-specific averages in 2026, rising to 20% in 2027 and 30% from 2028 onward, making them progressively more expensive relative to actual emissions data as the phase-out advances.
Does Free Allocation Phase-Out Apply Equally to All CBAM Sectors?
The CBAM factor schedule applies uniformly across all six CBAM sectors: iron and steel, cement, aluminium, fertilizers, electricity, and hydrogen. The phase-out percentage is identical for each sector in each year. What differs is the emission factor specific to each product and production route, which determines the absolute cost impact. Cement and fertilizers include indirect emissions (electricity consumption during production) in the CBAM obligation calculation, while iron and steel, aluminium, hydrogen, and electricity cover only direct emissions. This means the effective cost impact of the CBAM factor varies by sector even at identical phase-out percentages.
Does Free Allocation Reduction Affect Article 9 Carbon Price Deductions?
The Article 9 deduction (for carbon prices paid in the country of origin) operates independently of the free allocation schedule. An importer whose non-EU supplier has paid a carbon price under a recognized foreign emissions trading system reduces their net CBAM certificate obligation by the amount equivalent to the carbon price paid, converted to euros at the applicable exchange rate. This deduction is calculated on the gross embedded emissions before the CBAM factor is applied. The free allocation reduction increases the net certificate obligation each year (through the rising CBAM factor), which makes the Article 9 deduction proportionally more valuable as the phase-out advances.
What CBAM Compliance Steps Should Importers Complete Before 2030?
The 6 compliance steps most critical before the 2029-to-2030 cost acceleration are listed below.
- Obtain authorized CBAM declarant status (application deadline: March 31, 2026).
- Establish supplier data flows for embedded emissions reporting at production installation level.
- Arrange third-party verifier contracts before verifier registration opens on September 1, 2026.
- Model CBAM costs across the full 2026-to-2034 schedule using a range of ETS price scenarios.
- Renegotiate supply contracts with CBAM cost escalation clauses tied to the published CBAM factor schedule.
- Assess eligibility for Article 9 deductions from foreign carbon pricing mechanisms in countries of origin.
Detailed guidance for each step is available in the CBAM compliance for importers section.