The Foreign Accrual Property Income (FAPI) rules. What Corporations Need To Know Before Investing Outside of Canada

The Foreign Accrual Property Income (FAPI) Rules. What Corporations Need To Know Before Investing Outside of Canada.



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When a Canadian corporation holds a controlling interest in a foreign affiliate, that affiliate can generate 2 types of income for the Canadian parent:

  1. Active Business Income (ABI), or
  2. Foreign Accrued Property Income (FAPI)

Whereas the first type of income is self-explanatory, the second type of income is defined in subsection 95(1) of the ITA; it is more generally described as passive income and includes income from property, rent, royalties, investment income, and taxable capital gains from the disposition of property that is not used in an active business.

Although some controlled foreign affiliate (CFA) businesses are investment businesses, generally those property businesses will be considered for Income Tax Act (ITA) purposes to generate ABI if those employed by the CFA cumulatively comprise work at least 5 full-time equivalent (FTE) hours.

There are even some types of income that are specifically excluded from FAPI, such as taxable dividends paid from foreign affiliates generating ABI.  Such dividends paid to the Canadian corporation owning the shares of the foreign affiliate are deductible under section 112 of the ITA and therefore not taxable.  The overall objective of the FAPI rules is to ensure that Canadian corporations pay tax annually on income from investments that are located in an off-shore jurisdiction but that remain under the control of the Canadian corporation.

The concept of FAPI is that Canadian-resident taxpayers could without these rules earn passive income in foreign subsidiaries and keep it there until the money was needed back in Canada, if ever.  Unless the money is repatriated back to Canada, Canadian taxes on the income would be deferred indefinitely.  Prior to the introduction of the FAPI rules in the ITA, a common strategy to realize this tax deferral was to utilities an offshore holding company to hold passive investments.  The application of FAPI is intended to eliminate this otherwise Canadian tax deferral

The FAPI rules instead deem all passive income generated by the CFA, whether that income is actually received by the Canadian parent or not (hence the word “accrued” in the full terminology), to be included in the income of the Canadian parent in proportion to the ownership percentage that the parent holds in the CFA.  Specifically, under section 91 of the ITA, the amount of FAPI generated by a CFA that must be reported by a Canadian parent is equal to that parent’s participating percentage in that CFA.  For example, if the Canadian parent owns 75% of the outstanding shares of the CFA, then 75% of the FAPI generated by the CFA in a year must be reported as income on the Canadian parent’s tax return.

In calculating the proportionate percentage of net income that must be included in the  parent’s income, the following amounts can be deducted from gross income calculated from the CFA:

  • Losses from property
  • Losses from a business other than an active business
  • Certain allowable capital losses from the disposition of certain property.

If the deduction of these losses exceeds FAPI of the Canadian parent, the resulting “foreign accrual property loss” can be carried forward 20 years and carried back 3 year and applied against FAPI incurred in those years.



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In addition, a reduction of taxes is allowed to take into account any foreign taxes paid on the FAPI.  This reduction, similar to a foreign tax credit on the personal tax returns of Canadian taxpayer’s, is calculated by multiplying the “foreign accrued tax” by the “relevant tax factor (FAT)”, or put simply:


foreign accrual tax (FAT) applicable to FAPI


the Canadian parent’s “relevant tax factor (RTF)


The RTF is calculated by dividing 1 by the tax rate of the CFA, or [1 / .25] when using the default withholding tax rate.  Bypassing complicated calculations, the RTF of a corporation is therefore 4.  When multiplying the RTF by the FAT, the product of the equation is designed – in theory – to simulate the Canadian dollar equivalent of the foreign taxes paid on the FAPI.

By contrast, if the FAPI income is held by a Canadian resident individual, the RTF is 2.2.  Due to the higher RTF of Canadian corporations, effective tax planning and reduced tax exposure can be realized by executing a reorganization under subsection 85(1) to have the property generating FAPI transferred from a Canadian resident individual to a Canadian resident corporation to take advantage of the higher RTF available to the corporation and, consequently, lower Canadian tax exposure.

The higher RTF of a corporation results in a possibly substantial tax deferral on FAPI.  However, utilizing a corporation with FAPI can also result in an absolute savings in tax.  If the FAPI is paid to the corporation as a dividend, it passes through the corporation free of Canadian tax (due to a full deduction of the dividend under paragraph 113(1)(b), and out to the individual shareholder as an eligible dividend.  Since the tax owing on this type of dividend is less than the tax that the taxpayer would have to pay on a non-eligible dividend, using a corporation to receive the FAPI results in less tax paid.


In summary, the net FAPI income that is taxable to the Canadian parent is calculated as follows:

  • Starting FAPI recognized by the Canadian parent (participating percentage basis),


  • Applicable deductions from FAPI


  • Foreign tax credit

= income inclusion to the Canadian parent.


The net amount of FAPI included in the Canadian parent’s income is then added to the adjusted cost base (ACB) of the shares it holds in the CFA.


The remaining amount of Canadian tax paid on the net FAPI, after subtracting the foreign tax credit, brings the cumulative tax paid on the FAPI to an amount equal to the amount of tax paid had the income been generated in Canada.  This is the intent of the tax parity intention of the Income Tax Act, which is to simply facilitate the consistent computation of Canadian tax owing, regardless of the source of that income.


If you have any questions or want to speak further about your corporation or estate planning matters, contact Nicholas Kilpatrick at


Nicholas Kilpatrick is a partner with the accounting firm of  Burgess Kilpatrick and specializes in tax structuring and business development for his small and medium business sized clients.  Please visit our website at or on Facebook at Kilpatrick for more information on our firm.

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