“Buyer Beware” is EPA’s Response to Fraud in the Renewable Identification Number (RIN) Market

In 2005, Congress established the Renewable Fuels Standard program (the “RFS Program”) to, in part, reduce the country’s dependence on petroleum-based fuels and cut greenhouse gas emissions from the transportation sector by requiring that transportation fuel sold in the United States contain a minimum volume of renewable fuel.  Following the creation of the RFS Program, the Environmental Protection Agency (“EPA”) developed a set of regulations for implementing and administering the RFS Program, including the flexibility for obligated parties (e.g., gasoline and diesel fuel producers and importers) to demonstrate compliance with their respective renewable fuel volume obligations either by purchasing renewable fuel (and the associated RINs) or by simply purchasing RINs (without also purchasing the underlying renewable fuel).  In this system, RINs serve as credits for specific amounts of renewable fuel produced and blended in the domestic fuel supply.  As such, RINs can be traded among parties in the RFS Program (and other intermediaries) and are used by obligated parties to establish compliance with their renewable volume obligations.  The opportunity to monetize RINs creates added value for biofuel producers and permits biodiesel to be sold more cheaply than traditional diesel fuel.

Under the RFS Program, the EPA registers participants and tracks the generation, trading and retirement of RINs through the EPA Moderated Transaction System (“EMTS”).  Importantly, however, the EPA does not validate or certify the actual production of renewable fuel and the associated RINs prior to their use for compliance.  Rather the onus is on the obligated party to ensure that they have tendered valid RINs to satisfy their renewable volume obligations and there is no safe harbor in the EPA’s regulations for an obligated party that inadvertently tenders invalid RINs.  This policy approach is consistent with certain other EPA-administered fuel programs (e.g., unleaded gasoline and low sulfur diesel fuel requirements) and is colloquially referred to by the EPA and others as “buyer beware.”

In late 2011 and early 2012, the EPA discovered that a significant amount of fraud had taken place within the RIN market.  Specifically, three separate biofuels producers allegedly registered and sold RINs in the EMTS without having produced any of the underlying renewable fuel.  As a result, obligated parties purchased and tendered upwards of 140 million invalid RINs in connection with the 2010 and 2011 compliance years. 

In response to these developments, in March 2012 the EPA issued an Interim Enforcement Response Policy, which stated that obligated parties that unknowingly tendered invalid RINs to satisfy their renewable volume obligations under the RFS Program for 2010 and 2011 could remedy such violations by, in addition to taking certain other administrative remedial actions, (1) replacing such invalid RINs and (2) paying a penalty for each invalid RIN tendered.  In articulating its policy response, the EPA stressed “that it is incumbent upon all parties to undertake due diligence to ascertain the validity of RINs” used to meet renewable fuel obligations under the RFS Program.  The EPA also stressed that its enforcement efforts are not directed solely towards obligated parties and that its enforcement staff are actively working to identify and pursue fraudulent RIN generators.

Not surprisingly, the EPA’s policy response has been controversial.  Many industry participants claim that the EPA’s “buyer beware” approach is undermining the biofuels industry.  They argue that the EPA’s strict liability policy is squeezing small producers out of the market (and killing jobs) as obligated parties seek to protect themselves from liability by purchasing RINs from only the largest, most creditworthy and well-known producers.  Concomitantly, RIN pricing and liquidity have been distorted and compliance costs have increased.  Some industry participants are taking these arguments further and directly challenging the EPA’s policy in federal court. 

In response to the industry reaction, and at the prompting of the House of Representatives Committee on Energy and Commerce, the EPA has agreed to explore refining its regulatory approach.  While to date nothing official has been promulgated by the EPA, the EPA in conjunction with industry stakeholders is exploring a number of possibilities, including articulating a set of due diligence guidelines that would provide an affirmative defense for obligated parties that unknowingly tender invalid RINs as well as the sanctioning of third party verification mechanisms that would certify RINs generated into the RFS Program.  In addition, recently members of the House Energy and Commerce Committee introduced legislation (the Stop RIN Fraud Act of 2012) that would require the EPA to certify RINs that are valid for compliance within the RFS Program, obviating the buyer beware issue altogether.

The EPA historically has resisted indicating which due diligence practices it believes are necessary and appropriate to verify RIN authenticity, deferring instead to industry participants to develop their own guidelines and best practices.  Industry participants will have to stay tuned for further guidance or policy changes from the EPA (or action from Congress).  For now, the EPA’s “buyer beware” approach under the RFS Program remains intact and a fact of life for obligated parties under the RFS Program.