Coal, gas and oil producers could also be required to make bigger emission cuts than other facilities under the proposal to ease the burden on hard-to-abate industries such as aviation and metals processing.
The Investor Group on Climate Change released the recommendations on Monday from an analysis of the Safeguard Mechanism that is currently under review.
The study comes days after research from the Climate Council found firms under the scheme cut pollution by less than one per cent over two years, and after the government announced a target to reduce climate emissions by 62 to 70 per cent in 2035.
The investment group commissioned consulting group EY to assess potential reforms to the Safeguard Mechanism for its Futureproofing Industry report.
The mechanism applies to facilities that emit more than 100,000 tonnes of greenhouse gases per year, including coal mines, liquefied natural gas plants, steelworks and manufacturers, and introduces emission limits that can be met through carbon cuts, credits or offsets.
But the report found the scheme's settings were not strong enough and would mean Australia fell short of its 2035 climate target by 10 megatonnes of carbon.
Instead, emission limits should be raised from 3.3 per cent to an average of seven per cent between 2031 and 2035, the report found, to cut another 15 megatonnes of carbon and encourage facilities to cut pollution on site.
Limits should also be set higher for some facilities, such as coal, oil and gas producers, the report found, due to higher profit margins and more opportunities for them to decarbonise.
The change would help industries in which carbon was hard to abate, Investor Group on Climate Change policy director Frankie Muskovic said, and where solutions were still being developed.
"A single, one-size-fits-all decline rate risks penalising industries that don't yet have a viable path to on-site abatement, while leaving cheaper abatement elsewhere untapped," she said.
"Tailoring the scheme to sector circumstances is the lowest cost way to get over the coming decade and it gives industries like iron processing and aviation the time they need to transition without being locked out of the economy."
The report also recommended more Australian businesses fall under the mechanism, with its threshold lowered to 75,000 tonnes of carbon in 2031 and reaching 25,000 tonnes by 2037.
The move could help to cut another five megatonnes of emissions by 2040, it found, without significantly affecting carbon credit prices.
Public consultation on the Safeguard Mechanism Review will continue until September 18, with a report due in early 2027.
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