Loophole in Biodiesel Tax Credit Prompts Outcry

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Europe is the world's leader in biodiesel production, accounting for three-quarters of last year's global output of the alternative fuel. The United States is No. 2, but its production lags far behind.

In 2004, Congress passed a tax credit intended to promote the U.S. biodiesel industry. The tax credit equals a dollar for every gallon of biodiesel blended in the United States. The idea was to encourage marketers of regular diesel to mix in plant-based fuel and, thus, broaden the use of biodiesel.

But a loophole has producers on both sides of the Atlantic crying foul.

Biodiesel and petroleum-based diesel mix easily together. The U.S. law allows producers to claim the tax credit for any level of blend. In the United States, blenders taking advantage of the credit have usually produced mixes of mostly petroleum diesel with, generally, up to 10 percent biodiesel, for the U.S. market. Most diesel engines can handle a blend that includes 20 percent biodiesel, known as B20, with no additional maintenance. Many can readily use 100 percent biodiesel, called B100.

But the law did not anticipate "splash and dash" — a loophole in the system. This practice involves bringing a tanker of biodiesel made elsewhere, usually Indonesia or Malaysia, to the United States, adding just a "splash" of U.S.-made petroleum diesel, then shipping the "blend" to Europe for sale. Adding just 0.1 percent petroleum diesel to a load of biodiesel while at a U.S. dock is enough to qualify for the credit.

U.S. critics say it rewards biodiesel producers — both foreign and domestic — without any real benefit to U.S. taxpayers, who are paying the bill. European critics say it's an unfair trade practice that's undercutting their market.

European biodiesel producers first cried foul when U.S. government-subsidized blends of 99.9 percent biodiesel and 0.1 percent petroleum diesel began showing up on the European market. They argued that they were being unfairly undercut by an illegal subsidy, and lobbied the European Union to fight the practice on the grounds that it creates unfair competition.

"This system clearly represents an unfair trade measure that urgently needs to be reviewed and eliminated – at least in its unfair trade aspects — by the U.S. government," officials of Europe's leading industry group, the European Biodiesel Board, wrote in a letter earlier this year to the European Trade Commissioner.

Commission sources say there is no doubt in Brussels that the subsidized B99 "is causing damage to the EU biodiesel producers."

American producers also became concerned with the practice when biodiesel producers from other countries started taking advantage of the program.

Jenna Higgins with the National Biodiesel Board, a U.S. industry group, calls this practice an "abuse" of congressional intent. As the law currently stands, she says, no American biodiesel producers have to be involved in order for foreign "splash and dashers" to claim the U.S. tax break.

Higgins says the tax credit for biodiesel blends is important for the domestic industry.

"This really is the main federal incentive for biodiesel," Higgins says. "If we don't work to close the loophole, it's possible the entire biodiesel tax credit will go away for everyone. And that would be devastating for the entire U.S. biodiesel industry."

The tax credit is scheduled to phase out at the end of 2008, but there is legislation pending that could end the "splash and dash" loophole sooner.

It's hard to predict whether the subsidy will be changed. For one thing, although the European producers complain about it, there is nothing to stop European biodiesel companies from shipping to the United States and taking advantage of the credit. Indeed, some reports suggest that is already happening.

And despite the concerns expressed by Higgins, some American companies are certainly benefiting from the subsidy — either by exporting made-in-the-U.S. biodiesel blends, or by importing loads of biodiesel, adding a touch of petroleum, then re-selling the subsidized blend abroad.

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