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Published: December 27, 2021

Last Updated: December 27, 2021

Overview – Foreign Accrual Property Income

Canadian persons who invest in a foreign corporation can be subject to special income inclusion rules which deem them to earn Foreign Accrual Property Income (FAPI) if they own a large enough stake in the foreign corporation and that foreign corporation earned “passive” income such as income from property or capital gains on the sale of property not used in an active business. The Supreme Court of Canada in Canada v. Loblaw Financial Holdings Inc. described the FAPI regime as “one of the most complicated statutory regimes in Canadian law” and “one of the most complex tax schemes, with hundreds of definitions, rules, and exceptions that shift regularly.”  This article provides an overview of the primary components of FAPI.

If a Canadian person owns 10% of a foreign corporation, that corporation will qualify as a foreign affiliate. Having a foreign affiliate means a Canadian taxpayer is required to file a special information return, form T1134, each year along with the Canadian taxpayer’s T1 or T2 tax return, which provides the Canada Revenue Agency (CRA) with information about the foreign affiliate.

A Canadian person will only have a FAPI inclusion with respect to a foreign corporation that is a controlled foreign affiliate of the Canadian person. When a Canadian controls a foreign corporation (generally but not exclusively by owning more than 50% of its shares) then the foreign corporation is a controlled foreign affiliate of the Canadian taxpayer. A foreign corporation can also be a controlled foreign affiliate if the Canadian taxpayer and a distinctly specified small group of other Canadian taxpayers collectively own sufficient shares to control the foreign corporation. A more detailed description of the definition of foreign affiliate and controlled foreign affiliate is available in this article

Canadian persons with a controlled foreign affiliate need to report and pay tax on foreign accrual property tax income each year proportional to their interest in the controlled foreign affiliate, even if that foreign income is not repatriated to Canada. This eliminates the tax deferral advantage that might otherwise be available through holding passive investments through a non-resident holding company. The cost base of the shares in the controlled foreign affiliate will be increased by the amount of FAPI earned by the Canadian resident owner to prevent double taxation on the eventual disposition of the shares. If the controlled foreign affiliate eventually pays a dividend, then a deduction is available for the Canadian resident to account for the FAPI the Canadian resident has already paid to prevent double taxation when the foreign affiliate distributes its earnings. Canadian persons can also accrue foreign accrual property losses which can be carried forward up to 20 years or backward up to 3 years to offset foreign accrual property income. 

Canadian income tax law also allows the equivalent of foreign tax credits to reduce foreign accrual property income based on the amount of foreign taxes paid on the controlled foreign affiliates income that is included in FAPI.

The Rationale for FAPI – Foreign Accrual Property Income

In the absence of Canada’s controlled foreign affiliate rules, the following tax planning idea would be tempting for Canadian taxpayers with substantial investment portfolios:

  • Incorporate a corporation (“ForeignCo”) in a jurisdiction with no income tax or income tax rates lower than those that apply in Canada;
  • Hold passive investments such as stocks, bonds, or real estate in ForeignCo; and
  • Have ForeignCo reinvest, offshore, the dividends, interest, rent and other investment income generated by the portfolio.

This approach would effectively allow Canadian taxpayers to defer paying Canadian tax indefinitely by only having the ForeignCo pay dividends to the Canadian taxpayer when necessary (e.g. to fund consumption). This would be a substantial tax advantage as it allows ForeignCo to reinvest and earn a return on money that would otherwise be paid to CRA. 

The Income Tax Act’s way of preventing tax planning of the type described above is with the concept of foreign accrual property income (“FAPI”). Canadian income tax law will treat Canadian residents as having received income, FAPI, based on certain types of “passive” income earned by their controlled foreign affiliates even in the absence of the controlled foreign affiliate paying that money to the Canadian residents as dividends. If the controlled foreign affiliate subsequently pays dividends from income previously taxed as FAPI, an adjustment is available to prevent double taxation. 

Components of FAPI – Foreign Accrual Property Income

FAPI Inclusions

Income from Property

Unless otherwise excluded, income from property is included in FAPI. The typical forms of income from property include dividends, rent, interest, and royalties. Realized capital gains, another type of prototypical “passive” income also often included in FAPI, though they are not considered “income from property” within the legislation. The idea behind “income from property” is that of income to which the owner of a property is entitled by virtue of ownership of the property without requiring a level of activity constitutive of running a business. Normally under Canadian income tax law income from an adventure or concern in the nature of trade is considered income from a business not income from property, but for the purposes of Foreign Accrual Property Income it is considered income from property. Income that pertains to or is incidental to an active business may be excluded from FAPI.

Income from an Investment Business

Income from an “investment business” is also included in FAPI. Prior to 1995 legislative amendments, the courts found that relatively low levels of activity would be sufficient for foreign income to be excluded from Foreign Accrual Property Income on the basis that it was business income not income from property. The government responded by introducing the concept of an investment business, which is a business carried on principally to earn income from property, income from insuring or reinsuring risks, income from factoring accounts receivable, and the disposition of certain types of property.

There is however an exception from investment business status that applies if three criteria are met. First, the business must be conducted primarily with arm’s length persons. Second, the business must be of a specific type including a real estate development business, a leasing or licensing business, an insurance business, a money lending business, or a regulated financial business. Third, the business must employ more than five full-time employees in carrying on the business. 

Sales of Property Deflecting Canadian Source Income

Income earned by a foreign affiliate through the sale of property which ‘deflects’ away from Canada can give rise to FAPI. In particular, if a Canadian resident taxpayer (or a Canadian person not arm’s length with the taxpayer) has a foreign affiliate which 

  • sells property which was not produced in or otherwise sufficiently connected to the foreign affiliate’s jurisdiction, and
  • the cost of that property to a person is relevant to the Canadian resident taxpayer’s (or a person not at arm’s length from the Canadian resident taxpayer) income from a business carried on in Canada,

then the sale of that property will be deemed to be a separate business whose income will be included in foreign accrual property income. This has a similar effect to Canadian tax law’s transfer pricing rules, but may apply in some situations where the transfer pricing rules do not apply. 

Income from Insuring Canadian Risks

Income earned by a foreign affiliate for insuring or reinsuring risk in respect of a person resident in Canada, a property situated in Canada, or a business carried on in Canada will be included in FAPI even though it may be active business income. There is however an exception that can apply if more than 90% of the foreign affiliate’s gross insurance premium revenue was from insuring the risks of persons at arm’s length from the foreign affiliate. 

Income Related to Canadian Debt and Lease Obligations

 Income earned by a foreign affiliate derived directly or indirectly from the indebtedness or lease obligations of persons resident in Canada or in respect of businesses carried on in Canada will be included in Foreign Accrual Property Income. This includes income from the foreign affiliate’s purchase and sale of Canadian indebtedness or lease obligations on its own account.

An exemption may be available if over 90% of the gross revenue of the foreign affiliate from indebtedness and lease obligations came from the indebtedness and lease obligations of non-resident persons whom the affiliate deals with at arm’s length.

Income from Services Deductible by a Non-Arm’s Length Canadian Resident

If a foreign affiliate earns income by charging a fee for a service it provides, and that fee is deductible in computing the Canadian business income of a taxpayer with respect to whom the affiliate is a foreign affiliate or any person non-arm’s length from the taxpayer or the foreign affiliate, then that income will be included in FAPI. This is another measure intended to prevent “erosion” of the Canadian income tax base by moving provision of services related to a Canadian business to a foreign affiliate. 

A similar rule applies with respect to charges for services that are deductible from the FAPI of another foreign affiliate. If a foreign affiliate earns income by charging a fee for a service it provides, and that fee is deductible in computing the FAPI of a second foreign affiliate of the same Canadian resident taxpayer, then that income is itself FAPI. This rule also applies if the second foreign affiliate is a foreign affiliate of a different Canadian taxpayer which does not deal at arm’s length with either first foreign affiliate or the first Canadian resident taxpayer. 

Income from Services Performed by Canadians

Income from services provided by a foreign affiliate is included in FAPI to the extent the services are actually performed by:

  1. A Canadian resident taxpayer with respect to which the foreign affiliate is a foreign affiliate,
  2. A relevant person who does not deal at arm’s length with the foreign affiliate or a taxpayer of whom the foreign affiliate is a foreign affiliate, 
  3. A partnership any member of which is a person described above, or
  4. A partnership in which any person or partnership described above has a partnership interest.

A “relevant person” is:

  • A Canadian resident taxpayer, or
  • A non-resident person who performs the relevant services in the course of a business carried on in Canada.

Capital Gains

Capital gains from the sale by a foreign affiliate of property that was not used in an active business and is not shares of a corporation which carries on an active business which accounts for substantially all of the fair market value of the shares are also included in FAPI.

FAPI Exclusions

Active Business Income

Income from an active business is excluded from FAPI so long as it falls outside of the “investment business” or other special rules designed to prevent tax base erosion as described above. 

Intra-group Payments and Transactions

Some income from property earned by a foreign affiliate is excluded from being FAPI due to rules that deem some intra-group payments to be active business income for FAPI purposes. Income from property earned from another member of the same corporate group where that income ultimately originated from an active business carried on by a different member of the corporate group is typically excluded from FAPI. This is to prevent intra-group payments converting active income not intended to be included in FAPI into income that would otherwise be included in FAPI. Typically, this treatment is available to the extent that the property income earned by the foreign affiliate is deductible when computing the income from an active business of another foreign affiliate.

Active Business Carried Out by Two Related Foreign Affiliates

When two foreign affiliates carry out separate aspects of an active business in a collaborative fashion, income earned by a foreign affiliate that would otherwise be classified as income from property may be classified as active business income instead. This income should be such that if it is directly related to the active business activities of the other foreign affiliate and would be included in computing the active business income of the other foreign affiliate if it had been earned by the other foreign affiliate.


Pro Tax Tips – Foreign Affiliates and Controlled Foreign Affiliates

The foreign affiliate system and foreign accrual property income are highly complex and is essential to get advice from an expert Toronto tax lawyer before setting up any structure or business to which this system may apply. Some structures for your business may be significantly better or worse than others and it is essential to understand the income tax compliance requirements associated with your business. If you inadvertently have FAPI which you have not reported, you should consult with an experienced Canadian tax lawyer about filing a voluntary disclosure application. This may allow you to eliminate the penalties and reduce the interest associated with your non-compliance if you have not already been contacted by the Canada Revenue Agency.



"This article provides information of a general nature only. It is only current at the posting date. It is not updated and it may no longer be current. It does not provide legal advice nor can it or should it be relied upon. All tax situations are specific to their facts and will differ from the situations in the articles. If you have specific legal questions you should consult a lawyer."


When a Canadian controls a non-resident corporation (often by owning more than 50% of its shares) then the foreign corporation is a controlled foreign affiliate of the Canadian taxpayer. A non-resident corporation can also be a controlled foreign affiliate if the Canadian taxpayer and a carefully specified small group of other Canadian taxpayers collectively own sufficient shares to control the foreign corporation.

Canadian tax law will effectively “look through” the fact that a controlled foreign affiliate is a separate person from its corresponding Canadian resident taxpayers and impute to them as income the foreign accrual property income earned by the controlled foreign affiliate during each tax year. Foreign accrual property income generally includes income from property (e.g. interest, dividends, rent) but not income from an active business. The Foreign accrual property income definition is also designed to try and prevent some ways for corporate groups to shift income out of Canada’s jurisdiction to tax it.

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