Winners and losers: the EPA's unfair implementation of renewable fuel standards.

• Author: Neufeld, Bob

1. INTRODUCTION II. BACKGROUND III. ANALYSIS A. THE PROBLEM 1. Unintended Consequences a. Wealth Transfer b. Distorted Competition c. Consequences Contrary to EISA's Statutory Goals B. A PROPOSAL TO SOLVE THE PROBLEM 1. Unpersuasive Alternatives 2. The Small Refinery Exemption C. WHO CAN CHALLENGE THE EPA'S RULE & WHEN CAN THEY DO SO 1. Challenges After 2013 a. Standing b. Ripeness c. Tolling D. HOW THE COURTS WILL REVIEW THE EPA RULE: JUDICIAL DEFERENCE TO AGENCY DECISIONS IV. CONCLUSION "Follow the money." (1)

   Congress requires fuel suppliers to blend renewable fuels into our nation's transportation fuels. Not all suppliers, however, are treated equally under the EPA's current ride that exempts certain suppliers from these blending requirements. The rule has important consequences for the fuel industry. This article illustrates those consequences and proposes a legal solution.

1. INTRODUCTION

   In 2005, Congress passed the first renewable fuel standard ("RFS1") mandating that renewable fuels be blended into the nation's transportation fuel supply. Subsequently, the Environmental Protection Agency ("EPA") placed the duty for achieving the statutorily mandated renewable fuel volumes on petroleum refiners and importers (collectively referred to as "refiners"). The EPA defined each refiner as an "obligated party" with a renewable fuel-blending requirement directly proportional to its individual petroleum fuel production. Under current industry practices, merchant refiners sell some or all of their production before it can be blended and are, therefore, partially or wholly unable to comply directly with the EPA's blending mandate. This is problematic. Selling petroleum fuel changes neither a refiner's production volumes nor its blending obligation. Therefore, parties who purchase petroleum fuel, for which the producing refiner retains the obligation, have no requirement to comply with the law. For these parties, blending renewable fuel into petroleum fuel they do not produce is entirely voluntary.

   In 2007, Congress passed the Energy Independence and Security Act ("EISA"), which created the second renewable fuel standard ("RFS2") by increasing the mandated types and volumes of renewable fuels. In 2010, the EPA continued to exempt voluntary blenders even though their control of renewable and petroleum fuels at the blending point better positions them to accomplish EISA's greater statutory volumes. A compliance credit trading system allows refiners that do not achieve their renewable fuel obligation through blending to purchase compliance from others that blend more than required. This combination of obligating refiners, creating a class of voluntary blenders, and the credit trading system sets the stage for unintended consequences that distort competition, endanger the long term future of some refiners, and interfere with EISA's renewable fuel volume mandates.

   This article follows a straightforward roadmap. To start, the article provides some background information, describing the distribution of petroleum and renewable fuels from refineries and renewable fuel plants to the gas station and into our vehicle tanks. Next, the article explores the problem with the EPA's rule and how implementation of the federal renewable fuel standard ("RFS") policy is creating winners and losers for petroleum industry participants and may likely hinder expanded renewable fuel use. Third, the article proposes a solution to the problem and weaves in a bit of legislative history, agency implementation, and case law interpretations that define the economic and legal space in which federal policy and industry must coexist. The article also explores the mechanics of challenging the rule, including who could challenge the rule and when a challenge would be appropriate.

   This review concludes that challenging the RFS2 obligated party definition is fortunately not yet barred by the sixty-day limitations period of section 307(b)(1) of the Clean Air Act, that the matter is just now becoming ripe for review, and that small refineries are in a unique position to bring a challenge. Finally, the article discusses how a court might review a challenge to the rule, specifically, questions regarding the legality of RFS implementation and structure. This article surmises that the combination of the current "obligated party" definition and the Renewable Identification Number system is an unreasonable implementation of the statute and is otherwise not in accordance with law.

2. BACKGROUND

   On January 1, 2014, there were 139 petroleum refineries operating in the United States. (2) Refineries produce diesel fuel and gasoline from crude oil to supply the nation's automobiles, trucks, and off-road vehicles. Generally, automobiles, trucks, and off-road vehicles are fueled at independent retail outlets, convenience stores, and truck stops; or at utility, government entity, and other fleet fueling locations. Tanker trucks supply these retail and fleet locations. Tanker trucks are loaded at racks located at refineries and petroleum terminals. (3) For the purposes of this article, refinery loading and terminal loading are the two distribution channels for transportation fuels. (4)

   At the refinery loading rack, products meeting fungibility and regulatory standards are stored in sales tanks prior to being loaded into trucks for delivery. As product passes through the loading rack, but before it reaches the truck tank, metered pumps inject detergents and other additives--including renewable fuels such as com ethanol or biodiesel--in appropriate concentrations. (5)

   Terminal loading, on the other hand, refers to transportation fuel that is shipped from the refinery to a remote terminal by rail, barge, or pipeline. In the context of terminal loading, fungible product is usually stored in a common tank or tanks before it is loaded into trucks for local delivery. Similar to refinery loading, renewable fuels, detergents, and other additives are blended into the product as it passes through the rack.

   In most cases, renewable fuel blending occurs when the tanker truck is loaded--not before. Industry standards essentially prohibit renewable fuel blending prior to pipeline, barge, or rail shipment from the refinery. For example, the American Society for Testing and Materials International ("ASTM") has published standards, such as D1655--a "Standard Specification for Aviation Turbine Fuels." Until February 2015, this standard limited the fatty acid methyl ester ("FAME") or biodiesel content of jet fuel to less than five milligrams per kilogram or less than 5 parts per million ("ppm") by weight. (6) ASTM stated, "FAME is not approved as an additive for jet fuel. This level is accepted by approval authorities as the functional definition of 'nil addition.'" (7) The aviation industry did apply to evaluate up to 100 ppm in aviation turbine fuel. (8) In February 2015, however, ASTM relaxed the limit only to 50 ppm. (9) Regulating the biodiesel content of jet fuel limits pipeline transportation of biodiesel/petroleum diesel blends, which inevitably will contaminate later jet fuel shipments with residue deposited on pipeline walls. Therefore, Magellan Midstream Partners, L.P., which owns pipelines serving eastern and western South Dakota, prohibits shipping biodiesel/diesel blends in its system. (10)

   There are also issues in shipping ethanol and ethanol blends via pipeline. For example, there are geographic problems: most ethanol is generated in the Midwest, whereas most pipelines run from the Gulf Coast to the Northeast. In addition, there are chemical problems--ethanol is a solvent. When mixed with normal hydrocarbon residue and even a small amount of water normally present in pipelines, the ethanol may arrive at the destination out of specification. Moreover, similar issues presumably exist to a lesser degree with the pipeline shipments of ethanol and gasoline blends.

   Whatever the reason, the nearly universal practice in the transportation fuels industry is to blend renewable fuels into petroleum transportation fuel at a location as close to the consumer as possible. In some cases, this is at the local retail station if the owner has invested in separate ethanol or biodiesel tanks and metering blender pumps. The vast majority of blending, however, occurs when the product enters a tank truck at terminal and refinery loading racks. This fact has singular importance for the practical aspects of RFS2 implementation; title and custody, or lack thereof, of petroleum product at the blending location determines the winners and losers under RFS2.

   There are three levels in the petroleum transportation fuel supply chain. In the top level of the fuel supply chain are refineries. (11) Terminals, including refinery sales tanks and loading racks, are the second level. Retail and fleet stations are the third level. Figure 1 below is a graphical representation of the industry's distribution structure in which petroleum product moves downstream from the refinery to the terminal and finally to the retail station. Each level involves several players shaded to represent the different business categories that own or control fuel at that level. For example, light grey represents vertically integrated oil companies, which control transportation fuel at all three levels. Merchant refiners, in dark grey, supply some independently operated retail stations. However, most of their business comes from supplying vertically integrated oil companies and other marketers such as convenience store and truck stop chains (shaded in medium grey) that have significant retail systems. In these cases, the merchant refiner generally transfers the transportation fuel in bulk after the fuel reaches the terminal, but before it is sold by a voluntary blender at the truck rack. There are, of course, exceptions to almost every rule. A few refiners, for example, may have retail systems much smaller than their refining...