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Canada: Department of Finance reconsidering the proposed FAPI pick-up rule



Chris Van Loan

Andrew Jun

On December 16 2014, a package of tax measures – which included a number of foreign affiliate proposals that were first introduced in the summer of 2013 – was enacted into law. Missing from that package, however, were the proposed additions to the Canadian Income Tax Act (ITA) of subsections 91(1.1) and (1.2), which had been included in the 2013 proposals. It appears that this was a deliberate omission to allow the Department of Finance (DoF) to review these proposed rules in light of a number of concerns related to their operation. The ITA requires a Canadian taxpayer to include in its income a portion of foreign accrual property income (FAPI) earned by a controlled foreign affiliate (CFA) of such taxpayer for each taxation year of the CFA that ends in the taxation year of the Canadian taxpayer even if such FAPI is not distributed to such taxpayer. A CFA is generally a foreign affiliate of a Canadian taxpayer where the Canadian taxpayer, either alone or together with certain other persons (including up to four other Canadian residents), owns sufficient shares of the foreign affiliate to provide such persons with voting control of such foreign affiliate. Since the FAPI of a CFA is allocated to the relevant Canadian taxpayer at the end of the CFA's taxation year, a Canadian taxpayer could reduce the amount of a FAPI inclusion or avoid it altogether if the taxpayer simply decreased its ownership interest in the CFA before its year-end.

Proposed subsection 91(1.1) was intended to address this issue by forcing a FAPI inclusion every time a Canadian taxpayer's ownership interest in the CFA decreased, subject to an exception set out in proposed subsection 91(1.2). Proposed subsection 91(1.1) sought to achieve this objective by deeming the CFA to have had a taxation year-end in respect of the Canadian taxpayer immediately before there was a decrease in the Canadian taxpayer's 'surplus entitlement percentage' in such CFA. The surplus entitlement percentage generally measures a Canadian taxpayer's entitlement to receive distributions from the relevant FA relative to the entitlement of other persons and depends, generally, on share ownership. This deemed taxation year-end would result in the Canadian taxpayer having to include the stub period FAPI in its income and could happen multiple times during a CFA's fiscal year.

As proposed, however, there were a number of concerns relating to subsections 91(1.1) and (1.2). One such concern arises where the surplus entitlement percentage of the Canadian taxpayer changes frequently as, in those circumstances, proposed subsection 91(1.1) could present an undue administrative burden. An example of where this could occur would be where the CFA periodically issued shares in itself to local employees or managers. If shares in the CFA were issued to local employees or managers on a monthly basis, the Canadian taxpayer would experience a decrease in its surplus entitlement percentage in the CFA each month, which would cause the CFA to have a deemed taxation year-end in respect of that Canadian taxpayer at the end of each month. This would be an onerous result particularly where the CFA did not earn a significant amount of FAPI.

There has also been a concern raised with the effectiveness of proposed subsection 91(1.2) which is intended to prevent the application of proposed subsection 91(1.1) where another taxpayer resident in Canada that is 'connected' (as determined for the purpose of that subsection) to the Canadian taxpayer acquires the surplus entitlement percentage that was lost by the Canadian taxpayer. This exception was intended to allow intra-group transfers of shares in the CFA that do not result in an overall decrease in the surplus entitlement percentage of the group to take place without causing a FAPI inclusion. There would appear to be some technical shortcomings with the way this exception is intended to operate together with certain existing provisions of the ITA.

It is our understanding that DoF wishes to address these and possibly other concerns with proposed subsections 91(1.1) and (1.2) in a revised version of the proposals which are being worked on by DoF.

Chris Van Loan ( and Andrew Jun (, Toronto

Blake, Cassels & Graydon

Tel: +1 416 863 2687 and +1 416 863 4180


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