City Council
Staff Report
From: City Manager
Report Type: CONSENT CALENDAR
Lead Department: Utilities
Meeting Date: December 15, 2025
Report #:2510-5281
TITLE
Reaffirmation of the Carbon Neutral Plan and the Renewable Energy Credit Exchange Program as Recommended by the Utilities Advisory Commission; CEQA Status: Not a project
RECOMMENDATION
Staff and the Utilities Advisory Commission (UAC) recommend that the City Council:
1) Reaffirm the Carbon Neutral Plan, including the use of Renewable Portfolio Standard (RPS) eligible, unbundled RECs (Bucket 3 RECs) to neutralize any residual emissions resulting from the use of an hourly emissions accounting methodology; 2) Reaffirm the continuation of the “REC Exchange Program,” whereby the City exchanges bundled RECs from its long-term renewable resources (Bucket 1 RECs) for Bucket 3 RECs, to the maximum extent possible, while maintaining compliance with the state’s RPS regulations, in order to allocate additional revenues toward local decarbonization efforts; and
3) Direct staff to return to the UAC and City Council in 2028 to provide another review of the program’s impacts.
EXECUTIVE SUMMARY
In August 2020, the City Council approved amendments to the electric utility’s Carbon Neutral Plan that clarified and modified policies regarding the sales and exchanges of renewable energy credits (RECs) ( Staff Report 11556 1). The amendments permitted the exchange of Bucket 1 (primarily in-state) RECs for Bucket 3 (primarily out-of-state) RECs, provided the City maintains compliance with State Renewable Portfolio Standard (RPS) regulations. A portion of the earnings from the program were directed to be used to offset electric operational costs and mitigate the economic impacts of the coronavirus pandemic, and the remainder were reserved for local decarbonization programs. Since then, staff has purchased and sold RECs for Calendar Years (CYs) 1 Staff Report 11556: https://www.paloalto.gov/files/assets/public/v/1/agendas-minutes-reports/reports/city- manager-reports-cmrs/year-archive/2020-2/id-11566.pdf
2020 through 2025 in accordance with the Carbon Neutral Plan amendments, resulting in net earnings of $27.3 million, or about $4.5 million per year.
If the REC Exchange Program authorization is continued, staff projects that it will yield net earnings of about $1.9 million per year over the next five years (CYs 2026-2030). Over time, the REC Exchange program net revenue is projected to gradually decline, due to: (a) the gradual ramping up of RPS requirement levels combined with the City’s increasing load, which together reduce the volume of supplies the City can sell, and (b) some of the City’s older renewable energy contracts expiring. Since the program’s inception it has generated approximately $12.7 million in net revenues3, of which about $10.1 million have been allocated toward local decarbonization efforts,4 while the remainder have been used to offset operational costs and provide for general customer rate reduction.
BACKGROUND
In order to achieve its aggressive greenhouse gas (GHG) emissions reduction goals, in March 2013 the City adopted a Carbon Neutral Plan for the electric supply portfolio, with a goal of achieving carbon neutrality by 2013 ( Resolution 9322 5). The City has achieved its Carbon Neutral Plan objectives each year starting in 2013, primarily via purchases made through its long-term renewable energy contracts, which all provide the City with energy and Bucket 1 RECs. Due to its pursuit of these objectives, the City’s electric supply portfolio currently easily exceeds the state’s Renewable Portfolio Standard (RPS) procurement requirements.
In August 2020, the City Council adopted a resolution allowing for REC Exchanges 6 to take advantage of the significant cost difference between Bucket 1 and Bucket 3 RECs 7 to generate additional revenue for the City’s electric utility and to fund local decarbonization initiatives (Resolution 99138, Staff Report 115569). The Council directed that for 2020 and 2021, two-thirds of the proceeds from this program would go to electric operating cost reductions and one-third toward local GHG emission reduction programs, and that for 2022 onward all of the earnings, up 3 The remainder of the $27.3 million in net revenue from all REC transactions over this period was the result of sales of Bucket 1 RECs that exceeded the City’s total retail sales volumes, rather than for REC Exchange purposes. 4 These funds have been set aside for future local decarbonization spending, but to date the funding for these efforts has come solely from Public Benefits funds, Low Carbon Fuel Standard revenues, and Gas Cap & Trade allowance revenues.
5 Resolution 9322: https://www.paloalto.gov/files/assets/public/v/1/city-clerk/resolutions/reso-9322-33835.pdf 6 The exchange of bundled RECs from the City’s in-state, long-term renewable resources (Bucket 1 RECs) for RPS- eligible, unbundled RECs (Bucket 3 RECs), which usually come from out of state sources. 7 Due to limitations on the use of Bucket 3 RECs for compliance with the state’s RPS mandate (only 10% of a utility’s RPS procurement may consist of Bucket 3 RECs), a significant financial premium currently exists for in-state bundled renewable energy resources (Bucket 1 RECs).
8 Resolution 9913: https://www.paloalto.gov/files/assets/public/v/1/city-clerk/resolutions/reso- 9913.pdf?t=40151.26
9 Staff Report 11556: https://www.paloalto.gov/files/assets/public/v/1/agendas-minutes-reports/reports/city- manager-reports-cmrs/year-archive/2020-2/id-11566.pdf
to the amount of funds available in the Cap and Trade Reserve, would be devoted to emission reduction programs17.
In December 2022, the City Council also reviewed the results of the REC Exchange Program and voted to reauthorize it. They also directed staff to return to the UAC and City Council in 2025 to provide another review of the program’s impacts, which is the subject of this report.
ANALYSIS
Carbon Neutral Plan Review
In the 2013 Carbon Neutral Plan, the City defined carbon neutrality based on an annual accounting of the City’s load and its carbon neutral electric resources: an electric supply portfolio with “annual net zero greenhouse gas (GHG) emissions, measured at the Citygate, in accordance with The Climate Registry’s Electric Power Sector protocol for GHG emissions measurement and reporting.” At the time this definition was adopted, this was the most granular accounting approach feasible (given the lack of hourly grid emissions data) or necessary (given the small amount of solar capacity installed at that point, and the resulting emissions profile of grid electricity).
In 2020, the City Council voted to update the Carbon Neutral Plan, adopting a definition of carbon neutrality based on an hourly carbon emissions accounting standard. This modification was made because: (a) hourly grid emissions data had recently become available, and (b) the large volume of solar generation on the grid at that point had yielded a wide variation in grid emissions intensities over the course of the year and any given day.
As described in the annual informational reports on the Carbon Neutral Plan to the City Council, the City has achieved its Carbon Neutral Plan objectives each year starting in 2013, primarily through its long-term contracts for in-state hydroelectric and RPS-eligible resources. Since the adoption of the hourly carbon accounting methodology in 2020, the City has purchased approximately 30,000 additional Bucket 3 RECs each year to neutralize the “residual emissions” that result from the use of the more stringent hourly accounting approach, at an average annual cost of $150,000.
REC Exchange Program Results (2020-2025) and Projections (2026-2030) Since approving the REC Exchange Program in August 2020, staff has sold a total of about 835,000 Bucket 1 RECs and purchased an equal number of Bucket 3 RECs, as summarized in Table 1 below.18 These REC Exchange transactions have yielded a total of $12.7 million in net revenue, or about $2.1 million per year.
17 The exact funding mechanism for the local decarbonization spending allocates all net revenues earned from the REC Exchanges to local decarbonization, up to the amount available in the City’s Cap and Trade Reserve. 18 The analysis in this report includes only the REC transactions that were the direct result of Council’s approval of the REC Exchange Program. Staff purchased additional Bucket 3 RECs and sold additional Bucket 1 RECs during this time period (96,198 additional RECs purchased and 49,814 additional sold); however, these transactions were Table 1: Summary of REC Exchange Transactions and Revenue, CY 2020-202521 2020 2021 2022 2023 2024 2025
REC Exchange Volume22 (MWh) 177,494 287,210 179,290 44,062 31,824 115,000 Bucket 1 REC Sales Revenue ($M) 1.96 4.01 2.68 1.78 2.28 3.87 Bucket 3 REC Purchase Cost ($M) 0.60 1.47 0.91 0.26 0.15 0.45 Net Revenue ($M) 1.36 2.54 1.77 1.52 2.13 3.42
RPS Level (%) 33.0% 35.0% 38.9% 39.1% 41.0% 46.0%
When presenting the REC Exchange Program to Council for approval in 2020, staff estimated that it would generate roughly $3.0 million per year in net revenue for CY 2021-2025, with a significant tapering off thereafter due to the steady increases in the statewide RPS requirement level. Actual net revenues from all REC transactions have thus far come in significantly higher than this initial estimate (largely due to a huge spike in Bucket 1 REC prices that occurred in 2024), although many of these REC sales were related to Bucket 1 RECs that exceeded the City’s retail sales totals, and thus are not counted in the REC Exchange Program totals.
Over the next five years, staff estimates that the program will yield approximately $9.5 million in total net revenue, or $1.9 million per year, as shown in Table 2 below. The REC Exchange Program’s earnings are projected to decline sharply in future years, primarily due to the ramping up of the state’s RPS requirement levels, which reduces the volume of Bucket 1 supplies the City is able to sell. In addition, the City has begun to experience load growth in recent years (including a 12% increase from 2022 to 2024), and some of the City’s older renewable energy contracts are set to expire in the coming years; both factors further reduce the volume of Bucket 1 supplies available to exchange.
Table 2: Projected REC Exchange Transactions and Revenue, CY 2026-2030 2026 2027 2028 2029 2030
REC Exchange Volume (MWh) 155,000 177,000 130,000 48,000 8,000 Bucket 1 REC Sales Revenue ($M) 3.87 4.43 3.25 1.20 0.19 Bucket 3 REC Purchase Cost ($M) 0.93 1.15 0.91 0.36 0.06 Net Revenue ($M) 2.94 3.28 2.34 0.84 0.13
RPS Level (%) 50% 52% 55% 57% 60%
necessary, either to satisfy the City’s Carbon Neutral Plan goals during a drought period (Bucket 3 REC purchases in 2021 and 2022), or because the City had an overall surplus of such supplies relative to its RPS procurement requirements (Bucket 1 REC sales).
22 The volume of PCC1 RECs that are sold and the volume of PCC3 RECs that are purchased, pursuant to the REC Exchange Program.
Impact on Palo Alto’s Supply Portfolio
As discussed in Staff Report 1155624, although exchanging in-state RECs for out-of-state RECs has no real impact on the City’s total electricity-related carbon emissions, the downside of this strategy is that it has a negative impact on the City’s reported portfolio make-up and carbon emissions. California’s RPS law gives preferential treatment to in-state renewable resources over out-of-state resources, and the same is true of how such resources are reported to customers on the annual Power Content Label (PCL). The California Energy Commission’s (CEC’s) PCL regulations require that utilities report their out-of-state (Bucket 3) REC purchases as “unspecified sources of power” rather than under the appropriate renewable energy technology category. Furthermore, utilities are now required to report the annual average GHG emissions intensity of their electric supply on their PCLs—and again, rather than being treated as carbon- free resources like other forms of renewable energy, Bucket 3 RECs are treated as having an emissions intensity equivalent to generic market power purchases (944 lbs of CO2 per MWh, which is almost 20% greater than the average emissions intensity of natural gas generation).
As a result, rather than reporting a supply mix that is over 60% renewable and nearly carbon-free,25 under the REC Exchange Program the City must report a portfolio mix that is less than 40% renewable and is responsible for a moderate amount of carbon emissions. Figure 1 below depicts the City’s projected electric supply portfolio mix in CY 2025, before and after accounting for the REC Exchange Program transactions. Meanwhile, the estimated annual average GHG emissions intensities that the City would report on its PCL for these two portfolios are 45 and 159 lbs CO2 per MWh, respectively.26
24 Staff Report 11556: https://www.paloalto.gov/files/assets/public/v/1/agendas-minutes-reports/reports/city- manager-reports-cmrs/year-archive/2020-2/id-11566.pdf
25 Although the City’s baseline portfolio mix is entirely comprised of renewables and hydroelectric resources, the CEC’s PCL regulations assign a small emission intensity to all biomass generation such as landfill gas generation, which currently accounts for about 9% of the City’s baseline electric supply mix. 26 For reference, the statewide average GHG emissions intensity for CY 2024 was 359 lbs CO2 per MWh, while the City’s average GHG emissions intensity as reported on its PCL (and accounting for the REC Exchange Program transactions) was 21 lbs CO2 per MWh. The City’s emissions intensity is projected to be higher for CY 2025 than for CY 2024 because of a significant decline in hydroelectric generation this year.
Figure 1: Projected Electric Supplies in CY 2025, with and without REC Exchange Transactions Use of REC Exchange Funds
Of the $12.7 million in net revenue that the REC Exchange Program has yielded since 2020, approximately $2.6 million of it has been directed towards general electric operating cost reductions and the remaining $10.1 million has been set aside for future spending on local decarbonization programs. 30 This split of the overall program funds reflects Council’s original direction that two-thirds of the net proceeds would be used to offset electric supply costs and the remainder would be used to fund local decarbonization efforts; then, when Council reauthorized the program in 2022, it directed that all of the net proceeds (up to the amount of funds available in the Cap and Trade Reserve) be used for local decarbonization.
If the recommendation to continue the REC Exchange Program is approved, all of the net revenue from the program (whose estimates are shown in Table 2) would continue to be available for these decarbonization efforts. The programs that this funding is intended to support include the advanced heat-pump water heater (HPWH) pilot, the Home Efficiency Genie program, and multi- family building electrification efforts. However, to date the funding for these programs has been provided through other sources (e.g., Public Benefits funds, Low Carbon Fuel Standard credits, 30 Again, the mechanism for funding the local decarbonization programs is that an amount equivalent to the net revenues earned from the REC Exchanges would be allocated from the City’s Cap and Trade Reserve to local decarbonization efforts. Although, if the REC Exchange Program’s net revenues exceed the revenues from selling the electric utility’s Cap and Trade allowances in a given year, the local decarbonization funding allocation would be limited by the Cap and Trade allowance revenue amount.
and natural gas carbon allowances), leaving all of the REC Exchange Program funding that has been earmarked for local decarbonization efforts available to fund these programs in the future.
Staff anticipates returning to the UAC and City Council in 2026 to discuss whether to continue or modify these rules around the use and tracking of the REC Exchange Program’s future net revenues.
Next Steps
Upon the approval of the recommendation, staff will continue to execute transactions to sell the City’s in-state renewable resources and purchase out-of-state renewables for 2026 and beyond.
In addition, staff will continue to report on the portfolio’s total GHG emissions under both an hourly and an annual carbon accounting framework in the annual report to the City Council on the City’s Renewable Procurement Plan, Renewable Portfolio Standard Compliance, and Carbon Neutral Electric Supplies (usually presented in Q4 of each year).
FISCAL/RESOURCE IMPACT
Staff estimates that continuing the REC Exchange Program will generate an average of approximately $1.9 million in additional revenue per year for the next five fiscal years, which can be used to support the City’s decarbonization efforts.
STAKEHOLDER ENGAGEMENT
Staff has discussed the Carbon Neutral Plan update and the REC Exchange Program with the Utilities Advisory Commission in 2020 and 2022. Staff presented the recommendation to reaffirm the continuation of the Carbon Neutral Plan and the REC Exchange Program to the UAC at its meeting on October 1, 2025. Commissioners questioned staff about their REC price and REC Exchange net revenue projections, and whether any customers had commented on the change to the City’s Power Content Label since the start of the REC Exchange Program. (Staff indicated that no customers had commented on the change to date.) Following this discussion, the UAC voted unanimously (4-0) to support the staff recommendation.
If the recommendation is approved, staff will return to the UAC and Council in 2026 to discuss the allocation of REC Exchange Program net revenues, and in 2028 for another review of both programs.
ENVIRONMENTAL REVIEW
The City Council’s review of the Carbon Neutral Plan and the REC Exchange Program is not subject to California Environmental Quality Act (CEQA) review because it is an administrative government activity that will not result in any direct or indirect physical change to the environment (CEQA Guidelines section 15378(b)(5)).
ATTACHMENTS: None
APPROVED BY:
Alan Kurotori, Director of Utilities
Staff: Jim Stack, Senior Resource Planner