Mastering Thin Cap Rules: A Family Business Guide to Smart Financing and Tax Savings

When it comes to managing the financial health of a family-owned business, how you fund your operations can have a big impact on your taxes. One area that often gets overlooked is the thin capitalization (thin cap) rules—a set of tax regulations that ensure companies don’t use excessive debt to reduce their taxable income. These rules are crucial because they prevent businesses from loading up on debt, particularly from foreign shareholders, to unfairly shift profits out of Canada.

The thin cap rules aim to maintain a balance between debt and equity financing. Why? Because while interest on debt is tax-deductible, dividends on equity are not. The goal is to stop businesses from over-relying on debt to reduce their taxable income, ensuring a fair tax system that treats both financing options equally. This is particularly important for family-owned businesses, which often rely on creative financing strategies, including inter-company loans from foreign family members or affiliates, to fund growth.

At the heart of thin cap rules is subsection 18(4) to 18(6) of the Income Tax Act (ITA). These sections outline how much debt you can take on from non-resident shareholders before your interest deductions are limited. Over the years, the rules have tightened—originally allowing a 3:1 debt-to-equity ratio, which has now been reduced to 1.5:1. This means that for every $1 of equity, you can support up to $1.50 in debt from foreign shareholders, and interest on any excess debt is not tax-deductible. This change was designed to better protect Canada’s tax base from base erosion—the practice of shifting profits abroad to avoid paying Canadian taxes.

For family-owned businesses with foreign connections, understanding thin cap rules is essential to avoid unexpected tax penalties. Whether you’re planning an expansion or simply looking to optimize your tax planning, knowing how these rules apply can make a significant difference to your bottom line.

 

What Are Thin Capitalization (Thin Cap) Rules?

Thin capitalization refers to a situation where a company is financed with a disproportionately high level of debt relative to its equity. In tax terms, this can be problematic because interest payments on debt are generally tax-deductible, while dividends on equity are not. Thin capitalization rules, also known as “thin cap rules,” are designed to prevent companies from over-leveraging their business with debt, especially from related parties, in order to reduce taxable income by claiming excessive interest deductions.

Purpose of Thin Cap Rules in the Canadian Tax System

The primary purpose of thin capitalization rules within the Canadian tax system is to curb base erosion and profit shifting (BEPS), a strategy used by multinational enterprises (MNEs) and Canadian corporations with foreign shareholders to reduce their Canadian tax liability by increasing deductible interest payments to foreign affiliates or shareholders. By restricting the amount of interest that can be deducted, thin cap rules help ensure that businesses maintain a balanced mix of debt and equity financing, preventing the artificial shifting of profits out of Canada to jurisdictions with lower tax rates.

Thin cap rules specifically target situations where Canadian companies are financed with debt from specified non-residents, typically foreign shareholders or foreign affiliates. The concern is that a company could be loaded with excessive debt from related non-residents in order to shift profits abroad in the form of interest payments, thereby reducing taxable income in Canada.

To counter this, the Income Tax Act (ITA) limits the amount of interest that can be deducted when the debt-to-equity ratio exceeds a certain threshold. This ensures that companies cannot artificially inflate their interest deductions to lower their Canadian tax liabilities, thereby protecting the Canadian tax base.

Technical Overview of Thin Cap Rules

Under subsection 18(4) of the Income Tax Act, thin cap rules limit the amount of Interest and Financing Expenses (IFE) that a Canadian corporation can deduct for tax purposes if its debt exceeds a specified debt-to-equity ratio. The current ratio is set at 1.5:1 for most corporations, meaning that for every dollar of equity in the company, up to $1.50 of debt is permitted for interest deduction purposes. If a company’s debt exceeds this ratio, the excess interest on the debt is non-deductible for tax purposes.

Here is a breakdown of how the rule works:

• Debt: For thin cap purposes, debt refers to loans and other financial obligations owed by the Canadian corporation to specified non-residents—typically foreign shareholders or related foreign entities. This debt includes both long-term and short-term loans, as well as interest-bearing liabilities.
• Equity: Equity, in this context, consists of the paid-up capital of the corporation, along with its retained earnings and any contributed surplus. The equity component helps determine how much debt is allowable for tax-deductible interest payments.
• The Debt-to-Equity Ratio: The thin cap rules dictate that for every $1.50 of debt from a specified non-resident, there must be at least $1 of equity in the business. If the corporation’s debt exceeds this 1.5:1 ratio, the interest on the excess debt becomes non-deductible.

For example, if a Canadian corporation has $1 million in equity, it can support up to $1.5 million in debt under the thin cap rules. If the debt owed to foreign shareholders exceeds this amount, the interest payments on the excess debt are not deductible, reducing the company’s ability to lower its taxable income through interest deductions.

Application to Canadian Corporations with Foreign Shareholders

Thin cap rules apply specifically to Canadian corporations with foreign shareholders or debt from specified non-residents. The goal is to limit the use of intercompany debt as a means of profit shifting. The rules are particularly relevant for family-owned businesses with foreign shareholders or for corporations that are part of multinational groups with non-resident affiliates.

Here’s how the rules apply in practice:

• Specified Non-Residents: The rules apply to debt owed to specified non-residents, defined as non-resident shareholders who own 25% or more of the voting shares or fair market value of the corporation. This could include foreign parent companies or other foreign affiliates.
• Interest Deductibility: If the debt-to-equity ratio exceeds 1.5:1, any interest paid on the excess debt is disallowed for tax purposes. This prevents corporations from excessively financing their operations with debt from foreign affiliates in order to reduce their Canadian tax liability.
• Profit Shifting Concerns: The thin cap rules are intended to prevent profit shifting, where a Canadian corporation makes large interest payments to a foreign shareholder or affiliate. These payments reduce the taxable income of the Canadian corporation while shifting profits to the foreign entity, potentially located in a lower-tax jurisdiction. By limiting the interest deductions, Canada ensures that a fair portion of taxable profits remain in the country, thereby preventing base erosion.

Example: Thin Cap in a Family-Owned Business

Consider a family-owned enterprise, CanadaCo, with a foreign shareholder, ForeignCo, which owns 30% of CanadaCo’s shares. ForeignCo lends $3 million to CanadaCo. CanadaCo has $1 million in equity.

• The permitted debt for thin cap purposes is 1.5 times the equity of $1 million, so CanadaCo can support up to $1.5 million in debt for interest deduction purposes.
• The excess debt is the amount over $1.5 million, which in this case is $1.5 million ($3 million – $1.5 million).
• The interest on the excess $1.5 million of debt is non-deductible, meaning CanadaCo cannot deduct this portion of the interest expense on its tax return, resulting in higher taxable income.

For family-owned businesses with foreign shareholders or non-resident affiliates, the thin cap rules can significantly impact tax planning and financing strategies. Careful structuring of both debt and equity is crucial to ensure compliance and to avoid the denial of interest deductions.

In summary, thin capitalization rules are a critical part of Canada’s tax system, designed to prevent excessive profit shifting through debt financing. By understanding how the debt-to-equity ratio works and how these rules apply to foreign shareholders, family-owned businesses can make informed decisions about their financing strategies and avoid potential tax penalties.

 

 Who Is Affected by Thin Cap Rules?

Thin capitalization (thin cap) rules primarily affect Canadian corporations that have non-resident shareholders or loans from foreign affiliates. These rules are specifically designed to target companies that receive debt financing from non-residents, as this could be used to shift profits out of Canada by inflating interest payments, which are tax-deductible. The thin cap rules aim to limit excessive interest deductions, ensuring that a fair portion of taxable income remains within Canada’s tax system.

Businesses Impacted by Thin Cap Rules

The thin cap rules apply to Canadian corporations that have loans from specified non-residents—typically, non-resident shareholders or related foreign entities. Specifically, these rules impact:

• Canadian-controlled private corporations (CCPCs) that have non-resident shareholders owning 25% or more of the corporation’s shares (either in terms of voting rights or the fair market value of the shares). These non-resident shareholders may include foreign parent companies or affiliates.
• Corporations with foreign debt: If a Canadian corporation borrows money from a non-resident shareholder or a foreign affiliate, it must adhere to the thin cap rules, particularly if the debt-to-equity ratio exceeds 1.5:1.
• Partnerships with non-resident members: If a Canadian corporation is a partner in a partnership that incurs debt from non-resident members, thin cap rules may indirectly affect the corporation’s share of the partnership’s interest expenses.

Family-owned businesses that have expanded internationally or have foreign shareholders within their ownership structure should carefully assess their financing arrangements to ensure compliance with thin cap rules. Excessive debt financing from foreign shareholders could limit the deductibility of interest expenses, increasing the company’s taxable income and tax liability in Canada.

Thin Cap Rules for Canadian Corporations with Non-Resident Shareholders

The thin cap rules are most relevant to Canadian corporations with non-resident shareholders. When a corporation borrows funds from specified non-residents, the debt is subject to the 1.5:1 debt-to-equity ratio. If the corporation’s debt exceeds this ratio, the interest on the excess debt is not deductible for tax purposes. This effectively limits the ability of foreign shareholders to reduce the corporation’s Canadian taxable income through inflated interest deductions.

For example, if a foreign shareholder owns 30% of a family-owned corporation and lends money to the company, the thin cap rules would apply. The corporation can only deduct interest on loans up to 1.5 times the equity invested in the business. If the debt-to-equity ratio is exceeded, the interest on the excess debt is disallowed as a tax deduction, which could lead to a higher taxable income and a larger tax bill.

Exclusions from Thin Cap Rules

Certain exclusions and exceptions to the thin cap rules provide relief for smaller corporations and those with limited foreign financing:

• CCPCs with less than $50 million in taxable capital: Canadian-controlled private corporations (CCPCs) with taxable capital employed in Canada below the $50 million threshold are generally excluded from the thin cap rules. This exclusion helps protect smaller, family-owned businesses from the administrative burden of complying with these rules.
• Businesses with purely domestic financing: Canadian businesses that are financed entirely through domestic loans or equity contributions from Canadian shareholders are not subject to thin cap rules, as the rules are specifically designed to limit interest deductions on loans from foreign entities.

Impact on Family-Owned Businesses

For family-owned businesses, especially those with international ownership structures, thin cap rules require a close examination of financing arrangements. If the business has foreign shareholders or receives loans from foreign affiliates, the thin cap rules could limit interest deductibility. As a result, family businesses may need to adjust their debt and equity financing strategies to avoid breaching the 1.5:1 debt-to-equity ratio.

To mitigate the impact of thin cap rules, family-owned businesses should:

• Review their current debt levels: Determine whether existing foreign debt exceeds the allowable threshold and, if necessary, restructure financing to reduce reliance on foreign debt.
• Evaluate alternative financing options: Consider increasing equity contributions from Canadian shareholders or exploring domestic debt financing options to maintain compliance with thin cap rules.
• Monitor future financing arrangements: Ensure that any future loans from foreign shareholders or affiliates are structured in a way that does not exceed the 1.5:1 debt-to-equity limit.

By proactively reviewing financing arrangements and ensuring compliance with thin cap rules, family-owned businesses can avoid the disallowance of interest deductions, reducing their risk of increased tax liabilities.

In conclusion, while thin cap rules primarily affect Canadian corporations with non-resident shareholders or foreign loans, family-owned businesses must remain vigilant in monitoring their debt-to-equity ratios. Exclusions for smaller CCPCs and purely domestic financing offer relief, but international expansion or foreign financing introduces the potential for thin cap limitations. Regular reviews of financing structures will help ensure compliance and prevent unexpected tax consequences.

 

Key Elements of Thin Cap Rules

The thin capitalization (thin cap) rules in Canada operate by applying a debt-to-equity ratio test that limits the amount of interest a corporation can deduct on debt owed to non-resident shareholders. If this ratio exceeds the threshold, the excess interest is not deductible, ensuring that foreign debt is not used to shift an unfair portion of taxable income out of Canada. Below are the key elements that determine how thin cap rules function, particularly focusing on debt-to-equity ratios, the calculation method, and how debt and equity are defined.

Debt-to-Equity Ratio: The 1.5:1 Rule

The fundamental rule of thin cap is that the amount of deductible interest on loans from specified non-residents (foreign shareholders or affiliates) is limited by the debt-to-equity ratio. For most corporations, this ratio is set at 1.5:1. This means that for every $1 of equity contributed by the foreign shareholder, the company can borrow up to $1.50 from that shareholder or related entities, and the interest on this debt will be tax-deductible.

When the amount of debt exceeds the allowable limit under this ratio, the interest on the excess debt becomes non-deductible for Canadian tax purposes. This rule is codified in subsection 18(4) of the Income Tax Act (ITA).

For example, if a family-owned Canadian corporation has $1 million of equity from a foreign shareholder, the company can support up to $1.5 million in debt from that same shareholder. If the debt is greater than $1.5 million, the interest paid on the excess debt (above the allowable limit) will not be deductible, resulting in a higher taxable income.

Calculation Method: How to Determine the Debt-to-Equity Ratio

The debt-to-equity ratio is calculated using the following steps:

1. Determine Total Debt Owed to Specified Non-Residents
   Calculate the total amount of debt owed to specified non-residents, which includes foreign shareholders holding 25% or more of the voting shares or fair market value of the corporation. The total debt encompasses both long-term and short-term loans, as well as other financial obligations that bear interest.
2. Determine the Equity of the Corporation
   Calculate the equity of the corporation, which includes the following:
   • Paid-up capital: This represents the actual capital contributed by shareholders in exchange for shares.
   • Retained earnings: The accumulated earnings that have been reinvested into the company rather than distributed as dividends.
   • Contributed surplus: Additional capital contributed by shareholders, not in exchange for shares but for other considerations.
3. Apply the 1.5:1 Debt-to-Equity Ratio
   Compare the total amount of debt owed to specified non-residents to 1.5 times the total equity. If the debt exceeds 1.5 times the equity, the excess debt is deemed non-deductible, and the interest paid on that excess portion cannot be deducted for tax purposes.

For instance, if a Canadian corporation has $2 million in equity, it can deduct interest on up to $3 million in debt owed to specified non-residents (1.5 x $2 million). If the corporation borrows $4 million, interest on the extra $1 million will be non-deductible.

Debt Definition: What Constitutes “Debt” for Thin Cap Purposes

Under the thin cap rules, debt includes all outstanding loans and interest-bearing obligations owed to specified non-residents. These are typically non-resident shareholders or related foreign entities. Specifically, the definition of “debt” for thin cap purposes includes:

• Loans from foreign shareholders: Debt provided by non-resident shareholders who own 25% or more of the voting shares or fair market value of the Canadian corporation.
• Loans from foreign affiliates: Debt provided by foreign affiliates that are part of the same corporate group or related to the non-resident shareholders.
• Interest-bearing obligations: Any other financial obligations that bear interest, such as bonds or notes payable, owed to foreign shareholders or affiliates.

These loans can be either short-term (due within one year) or long-term, and all are aggregated for the purposes of applying the thin cap rules. Any interest-free loans or advances, as well as loans from Canadian residents, are not considered in the thin cap calculation.

Equity Definition: What Constitutes “Equity” for Thin Cap Purposes

In calculating the allowable debt under the thin cap rules, equity is the baseline for determining how much debt can be supported for tax-deductible interest. Equity is composed of:

1. Paid-up Capital
   This refers to the capital contributed by shareholders in exchange for shares in the corporation. Paid-up capital is a key component of the equity calculation because it represents the financial commitment made by the shareholders to the business. For thin cap purposes, only capital contributed by non-resident shareholders is relevant.
2. Retained Earnings
   Retained earnings are the accumulated net income of the corporation that has not been distributed as dividends to shareholders. Instead, these earnings are reinvested into the company to fund operations or expansion. Retained earnings are included in the equity calculation because they represent internal sources of financing that reduce the reliance on external debt.
3. Contributed Surplus
   This represents additional contributions from shareholders that are not tied directly to the issuance of shares. Contributed surplus can arise from various transactions, such as donations or additional payments made by shareholders, and it forms part of the equity base for the thin cap calculation.

In summary, equity under the thin cap rules includes paid-up capital, retained earnings, and contributed surplus, all of which represent the financial base against which the debt-to-equity ratio is measured.

Conclusion

The key elements of Canada’s thin cap rules revolve around the 1.5:1 debt-to-equity ratio, which limits the amount of interest that a corporation can deduct on debt owed to specified non-residents. If a Canadian corporation borrows more than 1.5 times its equity from foreign shareholders or affiliates, the excess debt becomes non-deductible, increasing the corporation’s taxable income.

Understanding how to calculate the debt-to-equity ratio and how debt and equity are defined is crucial for family-owned businesses with foreign shareholders. By ensuring that their debt levels remain within allowable limits, these businesses can avoid losing valuable interest deductions and facing higher tax liabilities.

 

Exceptions and Exemptions

While thin capitalization (thin cap) rules apply broadly to Canadian corporations with non-resident shareholders or foreign debt, there are specific exceptions and exemptions that provide relief for certain businesses. These exemptions help ensure that the rules target businesses where there is a significant risk of tax base erosion, while allowing other industries and smaller entities to operate with more flexibility.

Exceptions to the Thin Cap Rules

Several types of businesses are exempt from thin cap rules, particularly those in specific industries or financial sectors where the use of foreign debt is not typically seen as a mechanism for tax avoidance. Key exceptions include:

1. Canadian Financial Institutions
   • Financial institutions such as banks, credit unions, trust companies, insurance companies, and other entities regulated under the Bank Act or similar legislation are generally exempt from thin cap rules. This exemption recognizes the unique nature of these institutions, where borrowing and lending are part of the core business model.
   • Financial institutions typically operate under strict regulatory capital requirements, which ensure a balanced approach to financing without the need for thin cap limitations. Therefore, thin cap rules are not applied to their financing structures, as their debt is a necessary and integral part of their operations.
2. Exempted Industries
   • Certain industries, such as farming, insurance, and resource-based sectors (e.g., mining, oil and gas), may qualify for exceptions under thin cap rules, depending on the specific structure of the business and the nature of its financing arrangements.
   • These exemptions recognize that businesses in these industries often rely heavily on capital-intensive investments and long-term debt financing for operations and growth, which may not pose the same profit-shifting risks as other sectors.
3. Non-Resident Controlled Corporations in Exempt Sectors
   • Non-resident controlled Canadian corporations that are primarily involved in insurance, farming, or other exempt sectors may also benefit from exclusions. These businesses, particularly if they operate primarily within Canada, may be excluded from thin cap rules to ensure that their financing activities are not unduly restricted.

How Family-Owned Businesses Can Qualify for Exemptions

Family-owned businesses, particularly those with foreign shareholders or debt from non-resident entities, may fall under the thin cap rules. However, depending on their structure and the nature of their business, they may qualify for certain exemptions or strategies to avoid breaching the thin cap limitations.

Here are ways family-owned businesses can qualify for or benefit from exemptions:

1. Business Structure and Industry
   • Family-owned businesses operating in exempt industries, such as farming, insurance, or natural resources, may be able to qualify for exclusions from thin cap rules based on their specific industry. If the family business operates within one of these sectors, a review of the structure and financing arrangements should be conducted to determine whether the rules apply.
   • For example, a family-owned farming business that has expanded through foreign investment may not need to worry about thin cap rules if it can demonstrate that its industry qualifies for an exclusion.
2. Canadian-Controlled Private Corporations (CCPCs) with Less Than $50 Million in Taxable Capital
   • Canadian-controlled private corporations (CCPCs) with less than $50 million in taxable capital employed in Canada are generally excluded from the thin cap rules. This exemption is particularly important for family-owned businesses that are smaller or mid-sized, as it removes the administrative burden of monitoring and complying with thin cap regulations.
   • This exemption encourages the growth of small and medium-sized enterprises (SMEs), including family-owned businesses, by providing flexibility in their financing arrangements without triggering the limitations imposed by thin cap rules.
3. Domestic Financing Strategies
   • Family-owned businesses that have international ownership but rely primarily on domestic debt financing (i.e., loans from Canadian shareholders or Canadian financial institutions) are not subject to thin cap rules. By structuring financing from domestic sources, these businesses can avoid the limitations imposed on foreign loans, ensuring that interest deductions remain fully deductible.
   • Even for businesses with foreign shareholders, careful consideration of whether debt can be sourced domestically can help reduce the risk of falling under thin cap regulations.
4. Structuring Around Specified Non-Residents
   • Thin cap rules only apply to debt owed to specified non-residents, defined as non-residents who own 25% or more of the voting shares or fair market value of the company. Family-owned businesses can avoid the application of thin cap rules by ensuring that no foreign shareholder meets this ownership threshold.
   • Alternatively, the business can limit borrowing from non-resident shareholders, relying instead on loans from other sources that are not subject to thin cap rules. This strategy may be particularly useful for businesses with foreign family members or foreign subsidiaries that do not require significant foreign financing.
5. Strategic Use of Equity
   • Family-owned businesses can also avoid breaching thin cap rules by increasing equity contributions from shareholders, either through retained earnings or direct equity investments. By maintaining a stronger equity base, businesses can support higher levels of debt financing without breaching the 1.5:1 debt-to-equity ratio.
   • This approach not only avoids the thin cap restrictions but can also strengthen the company’s financial position, providing more flexibility in future borrowing and investment decisions.

Conclusion

While thin cap rules apply broadly to Canadian corporations with foreign debt, there are important exceptions and exemptions that can benefit certain businesses. Family-owned enterprises involved in exempt industries or structured as CCPCs with less than $50 million in taxable capital can often avoid the application of these rules. Furthermore, careful planning of debt financing sources and ensuring compliance with ownership thresholds can help family businesses mitigate the impact of thin cap limitations.

By reviewing their structure and financing arrangements, family-owned businesses can determine whether they qualify for exemptions and adjust their financing strategies accordingly to optimize their tax position and preserve interest deductibility.

 

Impact of Thin Cap Rules on Family-Owned Enterprises

Family-owned businesses that have foreign shareholders or engage in borrowing from related foreign entities may inadvertently breach thin capitalization (thin cap) rules, leading to denied interest deductions and a higher tax burden. This is particularly relevant as family businesses expand internationally or involve non-resident family members as investors. Understanding how thin cap rules can impact these businesses, as well as employing strategies to avoid these pitfalls, is essential for effective tax planning.

Inadvertent Breaches of Thin Cap Rules

Family-owned businesses may unintentionally breach the thin cap rules when they borrow from related foreign entities or non-resident shareholders. Under the thin cap rules, if the total debt owed to specified non-residents exceeds 1.5 times the equity in the company, the interest on the excess debt becomes non-deductible for tax purposes. For businesses that rely heavily on loans from foreign shareholders or affiliates, this could limit the ability to reduce taxable income through interest deductions.

A common scenario in family-owned enterprises involves foreign family members or relatives who may hold a significant ownership stake in the business. If these non-resident family members provide loans to the business, the company must ensure that it does not exceed the allowable debt-to-equity ratio. If the loans surpass the 1.5:1 ratio, the business will lose the ability to deduct interest on the excess debt, leading to higher taxable income and a larger tax liability in Canada.

Another way businesses may inadvertently breach the thin cap rules is through unstructured financing. For instance, a company might rely on foreign debt without realizing how much it has borrowed relative to its equity. This often happens when businesses are unaware of the specific ownership threshold (25% ownership by non-residents) that triggers the thin cap rules or when they fail to monitor their equity base relative to increasing foreign debt levels.

Scenarios Where Family-Owned Businesses Face Interest Deduction Limits

Several situations illustrate how thin cap rules can limit interest deductions and increase taxable income for family-owned businesses:

1. Expansion with Foreign Loans
   • A Canadian family business, CanCo, decides to expand its operations by opening a new facility. To fund this expansion, a non-resident family member who holds 30% of the company’s shares loans CanCo $3 million. CanCo has $1.2 million in equity.
   • Under the thin cap rules, CanCo can only deduct interest on debt up to 1.5 times its equity ($1.2 million × 1.5 = $1.8 million). The remaining $1.2 million in debt is excess debt, and the interest on this amount is non-deductible. As a result, CanCo faces a higher taxable income, increasing its overall tax liability.
2. Borrowing from a Foreign Affiliate
   • FamCo, a family-owned business in Canada, borrows $2 million from a foreign affiliate owned by non-resident shareholders who control 40% of FamCo. The company has $1 million in equity.
   • According to the thin cap rules, FamCo can only deduct interest on $1.5 million of the $2 million debt. Interest on the excess $500,000 of debt is disallowed, increasing FamCo’s taxable income. This scenario may lead to higher taxes that the business had not planned for, diminishing the expected benefits of the foreign loan.
3. Over-Leveraging in a Growth Phase
   • A family business, GrowCo, receives $4 million in loans from its non-resident parent company. GrowCo has $2 million in equity and rapidly expands its operations using the foreign debt.
   • With a 1.5:1 debt-to-equity ratio, GrowCo can deduct interest on $3 million of debt. However, it has borrowed $4 million, meaning $1 million of the debt is in excess of the allowable ratio, leading to denied interest deductions. The business will have to adjust to a higher tax burden due to the interest disallowance.

Strategies for Avoiding Thin Cap Pitfalls

Family-owned businesses can adopt various strategies to avoid breaching thin cap rules and optimize their tax position:

1. Adjusting Debt-Equity Structures
   • One of the most effective ways to avoid the limits imposed by thin cap rules is to adjust the debt-to-equity structure of the business. Increasing equity contributions from shareholders (either resident or non-resident) can boost the company’s equity base, allowing for a higher level of foreign debt while remaining compliant with the 1.5:1 ratio.
   • For instance, rather than relying exclusively on debt, the business could issue additional shares or retain more earnings within the company to increase its equity. This approach not only maintains compliance but also strengthens the company’s financial standing for future borrowing.
2. Exploring Alternative Financing Options
   • Instead of borrowing from foreign shareholders or affiliates, businesses can seek domestic financing from Canadian banks, financial institutions, or resident shareholders. Loans from domestic sources are not subject to thin cap rules, ensuring that interest deductions are fully available.
   • Family-owned businesses can also look at structuring equity-based financing or joint ventures to reduce reliance on foreign debt while still accessing the capital needed for expansion or operations.
3. Monitoring Ownership and Borrowing Thresholds
   • Family-owned businesses should actively monitor their ownership structure to ensure that non-resident shareholders do not meet the 25% ownership threshold, which triggers the thin cap rules. By keeping foreign ownership below this level, businesses can avoid thin cap limitations entirely.
   • Additionally, businesses should track how much debt they have borrowed from foreign shareholders and compare it to their equity base to ensure they remain within the allowable 1.5:1 ratio. Regular monitoring and financial planning can help prevent inadvertent breaches.
4. Reinvesting Earnings to Increase Equity
   • Another strategy is to retain earnings within the company to increase the equity base, allowing the business to support more foreign debt without breaching the thin cap limits. By reinvesting profits instead of distributing them as dividends, family-owned businesses can increase their capacity to borrow from foreign affiliates or shareholders without facing interest disallowances.
5. Refinancing with Domestic Lenders
   • In cases where foreign debt exceeds the allowable ratio, refinancing part of the foreign debt with Canadian lenders can reduce the risk of thin cap violations. Domestic debt is not subject to thin cap rules, so shifting some of the business’s borrowing to domestic lenders can help preserve interest deductions.

Conclusion

Family-owned businesses, particularly those with foreign shareholders or loans from related foreign entities, need to be aware of the potential implications of thin cap rules. These rules can limit interest deductions if debt levels exceed the allowable 1.5:1 debt-to-equity ratio, resulting in higher taxable income and a larger tax liability.

To avoid these pitfalls, businesses can adopt strategies such as adjusting their debt-equity structures, exploring domestic financing options, monitoring ownership and borrowing thresholds, and reinvesting earnings to build equity. By proactively managing their financing arrangements, family-owned businesses can remain compliant with thin cap rules while optimizing their tax position and preserving the benefits of foreign financing.

 

 

Practical Strategies to Comply with Thin Cap Rules

Complying with thin capitalization (thin cap) rules is essential for family-owned businesses that rely on foreign debt. These rules impose a strict 1.5:1 debt-to-equity ratio, limiting the amount of interest that can be deducted on debt owed to non-resident shareholders or foreign affiliates. Breaching these rules can result in denied interest deductions and increased taxable income. To avoid this, family-owned enterprises need to adopt practical strategies to balance their financing and ensure compliance. Here are some key strategies to help businesses comply with thin cap rules.

1. Restructuring Debt: Balance Debt and Equity Financing

One of the most effective strategies for maintaining compliance with thin cap rules is to restructure the business’s financing to balance the levels of debt and equity. A balanced financing structure ensures that the debt-to-equity ratio remains within the allowable 1.5:1 limit.

• Increase Equity Contributions: Family-owned businesses can maintain compliance by increasing the amount of equity in the business through direct investments from shareholders or retained earnings. By raising the equity base, the company can support a higher amount of debt without breaching the thin cap ratio. For example, issuing additional shares to non-resident or resident shareholders can boost equity while providing the necessary capital to fund operations or expansions.
• Retain Earnings: Instead of distributing profits as dividends, businesses can choose to retain earnings within the company. This reinvested capital increases equity, allowing the business to borrow more from foreign shareholders without exceeding the debt-to-equity limit.
• Pay Down Debt: If the debt-to-equity ratio is close to or above 1.5:1, businesses can reduce the risk of breaching thin cap rules by paying down existing foreign debt. Reducing debt levels not only brings the business back into compliance but also lowers overall interest payments, leading to long-term financial stability.

2. Avoiding Over-Leverage: Monitor Loan Structures

Family-owned businesses must closely monitor their loan structures with foreign entities to ensure they do not become over-leveraged. Over-leveraging occurs when the business takes on too much foreign debt relative to its equity, increasing the risk of exceeding the thin cap limit.

• Monitor the Debt-to-Equity Ratio Regularly: Businesses should routinely calculate their debt-to-equity ratio to ensure they remain within the allowable 1.5:1 threshold. This can be done through regular financial audits and reporting, helping the business identify early signs of over-leveraging.
• Limit Foreign Debt: To avoid exceeding the thin cap ratio, businesses can limit the amount of debt they take from foreign shareholders or related foreign affiliates. Instead, they may choose to rely on domestic debt or equity financing to meet their capital needs, which is not subject to thin cap restrictions.
• Consider Debt Splitting: Businesses can split debt among various sources, particularly if they are part of a corporate group. By distributing debt across different entities, businesses may avoid concentrating excessive foreign debt in one entity, thereby reducing the risk of breaching the thin cap rules.

3. Using Group Elections to Consolidate Financial Results

Family-owned businesses that are part of a corporate group may have access to group election provisions that can help them stay compliant with thin cap rules. These elections allow businesses to consolidate financial results from different entities, optimizing interest deductibility and potentially avoiding thin cap limitations.

• Group Ratio Election: Under the group ratio election, Canadian corporations within a group can elect to calculate their allowable debt based on the overall debt-to-equity ratio of the group rather than the individual corporation. This is particularly useful if some entities within the group have lower debt levels, while others are close to breaching the thin cap ratio. By consolidating the financial results, the group may reduce the impact of thin cap rules and maximize interest deductions.
• Transfer of Capacity: In some cases, businesses within a corporate group can transfer excess deduction capacity to other group members. For example, if one entity has excess capacity (i.e., a lower debt-to-equity ratio), it can transfer this capacity to an entity with higher debt levels, allowing the latter to remain compliant and retain interest deductions.

4. Regular Financial Audits and Tax Planning

To ensure ongoing compliance with thin cap rules, family-owned businesses should conduct regular financial audits and engage in proactive tax planning. This helps the business stay informed about its debt-to-equity ratio and identify any potential issues before they result in lost interest deductions or penalties.

• Financial Audits: Regular audits of the company’s financial statements help monitor debt and equity levels, ensuring that the business remains within the allowable debt-to-equity ratio. Audits also ensure that loans from foreign shareholders are properly documented and reported, reducing the risk of triggering a CRA audit.
• Strategic Tax Planning: Tax planning plays a critical role in maintaining compliance with thin cap rules. Businesses should work closely with tax professionals to structure their financing in the most tax-efficient manner, while also ensuring that they do not breach thin cap limits. This includes:
  • Assessing debt and equity needs annually to ensure the optimal mix of financing.
  • Modeling different financing scenarios to determine how future borrowing may affect compliance.
  • Adjusting financing strategies based on the company’s growth projections and expected capital needs.
• CRA Compliance: Staying compliant with CRA reporting requirements is essential. Businesses must file the necessary tax returns and declarations regarding their debt and equity levels, ensuring that all foreign debt is properly disclosed to avoid potential penalties.

Conclusion

For family-owned businesses that rely on foreign financing, staying compliant with thin cap rules is critical to avoiding denied interest deductions and increased tax liabilities. Practical strategies such as restructuring debt, avoiding over-leverage, and using group elections can help businesses remain within the allowable debt-to-equity ratio. Additionally, regular financial audits and proactive tax planning are essential to ensure ongoing compliance and optimize the company’s financial and tax position.

By taking a strategic approach to debt and equity financing, family-owned businesses can navigate the complexities of thin cap rules while preserving their ability to deduct interest expenses and maintaining a strong financial footing for future growth.

 

Thin Cap and Other Tax Rules

The thin capitalization (thin cap) rules do not operate in isolation within Canada’s tax framework. These rules interact with other important tax provisions, including transfer pricing, controlled foreign corporation (CFC) rules, and Canada’s General Anti-Avoidance Rule (GAAR). For family-owned businesses, understanding how thin cap rules intersect with these tax rules is critical to ensuring compliance and optimizing tax efficiency. Moreover, the recent introduction of the Excessive Interest and Financing Expense Limitation (EIFEL) rules adds another layer of complexity, making it essential to differentiate between thin cap and EIFEL when planning financing strategies.

1. Interaction Between Thin Cap Rules and Transfer Pricing

Transfer pricing rules, governed under section 247 of the Income Tax Act (ITA), require that transactions between related parties, including debt and interest payments, be conducted at arm’s length—i.e., at a price that would have been set if the parties were unrelated. The purpose of these rules is to prevent the artificial shifting of profits out of Canada through inflated or deflated pricing in cross-border transactions.

Thin Cap and Transfer Pricing: Key Interactions

• Arm’s Length Interest Rates: Thin cap rules limit the amount of debt a Canadian company can borrow from non-resident shareholders, but transfer pricing rules ensure that the interest rate on that debt is set at an arm’s length rate. Even if a company complies with thin cap rules, it may face adjustments under transfer pricing rules if the CRA deems that the interest rate charged is too high or too low compared to market rates.
• CRA Adjustments: If the interest paid to a foreign affiliate is found to be inconsistent with arm’s length principles, the CRA can adjust the amount of deductible interest to reflect what would have been charged between unrelated parties. This adjustment could reduce the company’s deductible expenses, thereby increasing its taxable income.

Practical Consideration for Family-Owned Businesses

• Family-owned businesses should ensure that both the amount of debt (under thin cap rules) and the interest rate (under transfer pricing rules) are compliant with Canadian tax law. Conducting a transfer pricing study to document that the interest rate is arm’s length can help prevent CRA challenges and ensure compliance with both rules.

2. Thin Cap and Controlled Foreign Corporation (CFC) Rules

Controlled foreign corporation (CFC) rules, also known as Foreign Accrual Property Income (FAPI) rules, are designed to prevent Canadian taxpayers from deferring Canadian tax by holding passive investments in low-tax jurisdictions through controlled foreign corporations. These rules require certain types of passive income, such as interest earned by a CFC, to be included in the Canadian parent company’s taxable income, even if the income is not distributed.

Thin Cap and CFC Rules: Key Interactions

• Interest Payments to CFCs: If a Canadian company pays interest to a foreign affiliate that qualifies as a CFC, both the thin cap and FAPI rules come into play. While thin cap rules limit the deductibility of interest paid on foreign debt, FAPI rules may require the inclusion of interest income earned by the CFC in the Canadian parent’s taxable income.
• Double Taxation Risk: A Canadian company could face a situation where it is denied an interest deduction under thin cap rules and, at the same time, required to include the same interest in its income under FAPI rules. This creates the risk of double taxation.

Practical Consideration for Family-Owned Businesses

• Family-owned businesses with foreign affiliates should carefully manage interest payments to CFCs. Proper structuring can help minimize the risk of double taxation under both thin cap and FAPI rules, and professional advice is recommended to navigate these complex interactions.

3. Thin Cap and Canada’s General Anti-Avoidance Rule (GAAR)

Canada’s General Anti-Avoidance Rule (GAAR), found in section 245 of the ITA, is a broad anti-avoidance provision that allows the CRA to challenge transactions that, while technically legal, are primarily structured to achieve a tax benefit contrary to the spirit of the tax legislation. GAAR is a safeguard to prevent aggressive tax planning and exploitation of loopholes.

Thin Cap and GAAR: Key Interactions

• Artificially Inflated Debt: Thin cap rules limit the amount of deductible debt, but businesses may attempt to structure transactions in ways that artificially inflate their foreign debt while technically complying with the 1.5:1 debt-to-equity ratio. GAAR can be invoked to challenge such arrangements if the CRA believes they were designed primarily for tax avoidance rather than for genuine business purposes.
• GAAR as a Backstop: Even if a company follows the letter of the thin cap rules, GAAR serves as a backstop to prevent tax avoidance. If a family-owned business uses complex or artificial transactions to circumvent the thin cap limitations, the CRA may apply GAAR to deny the deductions or recharacterize the transactions.

Practical Consideration for Family-Owned Businesses

• Family-owned businesses should ensure that their financing arrangements have a genuine commercial purpose and are not structured solely for tax avoidance. This approach aligns with substance-over-form tax planning, ensuring compliance with GAAR. Consulting tax professionals to avoid GAAR challenges is essential, especially in complex financing situations.

4. Comparing Thin Cap and EIFEL Rules

With the recent introduction of the Excessive Interest and Financing Expense Limitation (EIFEL) rules, there are some notable differences between EIFEL and thin cap rules, although both aim to limit excessive interest deductions and protect the Canadian tax base.

Key Differences:

• Scope of Application: Thin cap rules apply specifically to interest on foreign debt from non-resident shareholders or foreign affiliates, while EIFEL applies more broadly to both domestic and foreign debt, limiting the deductibility of interest expenses based on a company’s Adjusted Taxable Income (ATI).
• Debt-to-Equity Ratio vs. Fixed Ratio: Thin cap rules use a 1.5:1 debt-to-equity ratio to limit interest deductions, whereas EIFEL imposes a fixed 30% ratio of adjusted taxable income (40% during the transitional period) to cap interest deductions, regardless of the source of the debt.
• Affected Entities: Thin cap rules primarily affect Canadian-controlled private corporations (CCPCs) and other corporations with non-resident shareholders, while EIFEL applies to a broader range of corporations, including domestic corporations with significant interest expenses, regardless of whether the debt is from foreign or domestic sources.

Practical Consideration for Family-Owned Businesses

• Family-owned businesses with foreign debt need to comply with both thin cap rules and EIFEL, ensuring that they do not exceed the allowable debt-to-equity ratio under thin cap while also remaining within the interest deduction limits imposed by EIFEL. The two rules may operate simultaneously, and businesses should conduct thorough reviews of their financing structures to ensure compliance with both sets of regulations.

Conclusion

Thin cap rules interact with several other critical tax rules, including transfer pricing, CFC rules, GAAR, and now, the EIFEL rules. Family-owned businesses with foreign debt must navigate these overlapping regulations to avoid excessive tax liabilities. While thin cap rules limit the amount of foreign debt, EIFEL places broader limitations on interest deductions, including for domestic debt. Meanwhile, transfer pricing ensures arm’s length interest rates, CFC rules manage passive income from foreign affiliates, and GAAR prevents abusive tax strategies.

To stay compliant, family-owned businesses should engage in careful tax planning and seek professional guidance to optimize their financing strategies and minimize the risk of non-compliance with multiple tax rules. By understanding the intersections of these regulations, businesses can maintain tax efficiency while staying within the boundaries of Canadian tax law.

 

Examples and Case Studies

Case Study: A Family-Owned Business Facing Interest Deduction Limitations Under Thin Cap Rules

Background:

Let’s consider a real-life scenario involving a family-owned manufacturing business, Woodcraft Inc., based in Canada. The company had been successfully operating for over a decade and was looking to expand its operations by setting up a second production facility. To fund this expansion, Ray, a non-resident family member and 30% shareholder of the business, provided a loan of $4 million.

At the time of borrowing, Woodcraft Inc. had an equity base of $2 million. While the loan allowed the business to rapidly expand its operations, the management team was unaware of the implications of Canada’s thin capitalization (thin cap) rules, which limit the amount of debt the company can deduct interest on. The thin cap rules impose a 1.5:1 debt-to-equity ratio for loans from non-resident shareholders or foreign affiliates.

As the business progressed, they began facing limitations on interest deductibility under the thin cap rules.

The Thin Cap Issue:

Woodcraft Inc.’s total equity was $2 million, meaning the maximum allowable debt under the 1.5:1 ratio was $3 million. The company, however, had borrowed $4 million from Ray. This meant that $1 million of the loan exceeded the allowable limit under thin cap rules. As a result, the interest on the excess $1 million was deemed non-deductible, which caused a significant increase in taxable income.

This limitation on interest deductibility resulted in higher tax liabilities for Woodcraft Inc., reducing its available cash flow for further investments and expansions.

Initial Financial Impact:

• Loan from Ray: $4 million
• Equity base: $2 million
• Allowed debt under thin cap rules: $3 million
• Excess debt: $1 million
• Interest disallowed: Interest on the excess $1 million

The company was facing higher-than-expected tax liabilities due to the interest disallowance, which hindered their cash flow and affected their expansion plans.

Restructuring the Financing and Optimizing Tax Planning

Woodcraft Inc. realized that they needed expert advice to manage their foreign debt and mitigate the negative tax impact. That’s when they turned to Shajani CPA for strategic guidance on restructuring their financing to optimize tax efficiency and remain compliant with Canadian tax regulations.

Step 1: Increasing the Equity Base

Shajani CPA’s first step was to advise Woodcraft Inc. to increase its equity base to support the higher level of foreign debt. Instead of repaying the excess $1 million loan, Shajani CPA recommended that Ray make an equity contribution by purchasing additional shares in the business. This increase in equity allowed Woodcraft Inc. to bring its debt-to-equity ratio back within the allowable 1.5:1 limit.

• Original equity base: $2 million
• New equity base (after Ray’s equity injection): $3 million
• Allowable debt under the new ratio: $4.5 million

By increasing the equity base, the company could now support the full $4 million loan without breaching the thin cap rules, allowing them to deduct the interest on the entire amount.

Step 2: Refinancing with Domestic Debt

In addition to increasing the equity base, Shajani CPA advised Woodcraft Inc. to refinance part of the loan with a Canadian lender. By shifting some of the debt from Ray (a non-resident) to a Canadian financial institution, the company could further reduce its reliance on foreign debt, ensuring compliance with thin cap rules.

The refinancing strategy allowed Woodcraft Inc. to maintain its capital for expansion while ensuring that future interest expenses would remain fully deductible. This also helped diversify the company’s financing sources, reducing its dependency on foreign debt.

Step 3: Monitoring the Debt-to-Equity Ratio

Shajani CPA implemented a system for Woodcraft Inc. to regularly monitor their debt-to-equity ratio to prevent future breaches of the thin cap limits. This involved setting up routine financial reviews and reporting mechanisms to track the company’s debt and equity levels. By closely monitoring their financials, Woodcraft Inc. could stay ahead of any potential thin cap issues, ensuring continuous compliance.

Step 4: Proactive Tax Planning

To further mitigate the impact of thin cap rules, Shajani CPA helped Woodcraft Inc. with proactive tax planning strategies. This included:

• Retaining earnings to increase the equity base over time, allowing for greater borrowing capacity from foreign shareholders.
• Structuring future financing needs to ensure that the company remains within the allowable debt-to-equity limits.

Outcome: Strategic Debt Management and Tax Optimization

Thanks to the strategic advice from Shajani CPA, Woodcraft Inc. successfully restructured its financing and avoided further disallowed interest deductions. By increasing the equity base and refinancing with a domestic lender, the company was able to deduct the interest on the full $4 million loan, significantly reducing its taxable income and preserving cash flow for future investments.

• Increased equity base: Allowed full deductibility of the interest on the $4 million loan.
• Refinancing with domestic lenders: Provided additional financing flexibility and reduced reliance on foreign debt.
• Proactive monitoring and tax planning: Ensured continued compliance with thin cap rules, avoiding future interest deduction limitations.

How Shajani CPA Helped Mitigate the Impact of Thin Cap Rules

Shajani CPA’s in-depth understanding of thin cap rules and strategic approach to financing restructuring enabled Woodcraft Inc. to successfully navigate the complexities of foreign debt and interest deductibility. By offering tailored solutions that included increasing equity, refinancing with domestic debt, and ongoing tax planning, Shajani CPA helped the company optimize its tax position and stay compliant with Canadian tax laws.

Shajani CPA’s Strategic Approach Included:

1. Identifying the Problem: Diagnosing the thin cap issue and determining the excess debt amount.
2. Restructuring the Financing: Advising on increasing the equity base and refinancing with domestic lenders.
3. Tax Optimization: Implementing strategies for long-term tax savings through proactive planning and monitoring.
4. Ensuring Compliance: Setting up systems to track the debt-to-equity ratio and prevent future breaches.

Through these steps, Shajani CPA helped Woodcraft Inc. avoid significant tax liabilities and enabled the company to focus on its expansion goals without the burden of excessive tax payments. This case demonstrates the importance of expert tax guidance in navigating complex tax rules, such as thin capitalization, and ensuring that family-owned businesses thrive.

Conclusion: Navigating Thin Cap Rules with Professional Guidance

Thin capitalization (thin cap) rules are a crucial component of Canada’s tax framework, designed to ensure fair taxation by limiting the amount of deductible interest on foreign debt. These rules, while necessary, can be complex and difficult to navigate, especially for family-owned businesses that rely on foreign loans to support their growth. Non-compliance with thin cap rules can result in denied interest deductions, higher taxable income, and increased tax liabilities, making it essential for businesses to understand and adhere to these regulations.

At Shajani CPA, we understand the challenges that family-owned businesses face when it comes to managing foreign debt and staying compliant with thin cap rules. Our expertise in tax strategy and compliance enables us to offer tailored solutions that help businesses optimize their financing structures, avoid penalties, and maximize their interest deductions. Whether it’s restructuring your debt, balancing your equity, or ensuring compliance with Canadian tax regulations, our team is here to guide you every step of the way.

Call-to-Action: If your business is dealing with foreign debt or facing challenges under Canada’s thin cap rules, now is the time to take action. Contact Shajani CPA today for a comprehensive review of your debt structures and tax planning strategies. We’ll work with you to ensure compliance, optimize your tax position, and support the continued growth of your family-owned business.

Let us help you navigate the complexities of thin cap rules so you can focus on what matters most—achieving your business goals.

 

FAQs on Thin Cap Rules for Family Businesses

1. Q: How does the thin cap ratio affect my family business’s tax deductions?

A: The thin cap ratio limits your interest deductions if your debt-to-equity ratio exceeds 1.5:1 when borrowing from non-resident affiliates or shareholders. Any interest on debt that exceeds this ratio is non-deductible.

2. Q: Can I restructure my loans to comply with thin cap rules?

A: Yes, you can restructure your loans by adjusting the mix of debt and equity. This may involve increasing equity contributions or using domestic financing to bring your debt-to-equity ratio within the allowable limit.

3. Q: How do thin cap rules apply if my business is financed through a foreign affiliate?

A: Interest on debt from foreign affiliates is subject to thin cap rules. If the amount of foreign debt exceeds the allowable 1.5:1 ratio, the interest on the excess debt may not be deductible.

4. Q: Are all types of debt subject to thin cap rules?

A: No, only debt from specified non-residents, such as non-resident shareholders who own 25% or more of the company, is subject to thin cap rules. Debt from Canadian lenders is not included in the calculation.

5. Q: Can family-owned businesses avoid thin cap rules by using domestic lenders?

A: Yes, if your business uses loans from Canadian lenders, those loans are not subject to thin cap rules. This can be an effective strategy to avoid interest deduction limits.

6. Q: What happens if my business exceeds the 1.5:1 debt-to-equity ratio?

A: If your business exceeds the allowable ratio, the interest on the excess debt becomes non-deductible for tax purposes. This can result in higher taxable income and increased tax liabilities.

7. Q: Are there any exemptions to thin cap rules for smaller family-owned businesses?

A: Yes, Canadian-controlled private corporations (CCPCs) with less than $50 million in taxable capital employed in Canada are generally excluded from thin cap rules. This exemption helps protect smaller businesses.

8. Q: How do thin cap rules interact with other tax regulations like transfer pricing?

A: Thin cap rules limit the amount of debt, while transfer pricing rules ensure that the interest rate on that debt is set at an arm’s length rate. Both rules need to be considered when managing foreign loans.

9. Q: Can thin cap rules be applied retroactively?

A: Thin cap rules apply on an annual basis. If the CRA reviews past years and finds that your business exceeded the 1.5:1 ratio, they may disallow interest deductions retroactively, leading to reassessments.

10. Q: How can Shajani CPA help my business comply with thin cap rules?

A: Shajani CPA specializes in helping family-owned businesses navigate complex tax regulations like thin cap. We can review your debt structures, offer strategic advice on restructuring, and ensure your business remains compliant while maximizing your tax benefits.

 

References

1. Canada Revenue Agency (CRA) – Thin Capitalization Rules
   Relevant sections of the Income Tax Act (ITA): Section 18(4) to 18(8)
   https://www.canada.ca/en/revenue-agency/services/forms-publications/publications/it59r3/archived-interest-on-debts-owing-specified-non-residents-thin-capitalization.html
2. Canada Revenue Agency (CRA) – Income Tax Folio S3-F6-C1, Interest Deductibility
   Relevant section of the ITA: Section 20(1)(c) – Deduction of interest
   https://www.canada.ca/en/revenue-agency/services/tax/businesses/topics/corporations/corporation-tax-deductions/interest-deductibility.html
3. Department of Finance Canada – Excessive Interest and Financing Expenses Limitation (EIFEL) Rules
   Relevant sections of the ITA: Subsection 18.2(2) and 18.2(3)
   https://fin.canada.ca/drleg-apl/2022/ita-lir-1122-n-1-eng.html
4. Organisation for Economic Co-operation and Development (OECD) – Thin Capitalisation and Base Erosion and Profit Shifting (BEPS)
   Relevant sections of the ITA: Section 245 – General Anti-Avoidance Rule (GAAR)
   https://www.oecd.org/tax/beps/beps-actions/action4-interest-deductions/
5. OECD – Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations
   Relevant sections of the ITA: Section 247 – Transfer pricing adjustments
   https://www.oecd.org/tax/transfer-pricing/transfer-pricing-guidelines.htm
6. OECD – Controlled Foreign Corporation Rules: Designing Effective Controlled Foreign Company Rules
   Relevant sections of the ITA: Section 91 – Foreign Accrual Property Income (FAPI)
   https://www.oecd.org/tax/beps/designing-effective-controlled-foreign-company-rules-action-3-2015-final-report-9789264241152-en.htm

 

This information is for discussion purposes only and should not be considered professional advice. There is no guarantee or warrant of information on this site and it should be noted that rules and laws change regularly. You should consult a professional before considering implementing or taking any action based on information on this site. Call our team for a consultation before taking any action. ©2024 Shajani CPA.

Shajani CPA is a CPA Calgary, Edmonton and Red Deer firm and provides Accountant, Bookkeeping, Tax Advice and Tax Planning service.

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