Doing business in Canada: key tax considerations for subsidiaries and branches

Canadian income taxes are imposed at the federal level, as well as by the provinces and territories.

Federal income tax is levied on the worldwide income of every Canadian resident and, subject to any applicable income tax convention, on the Canadian-source income of every non-resident who is employed in Canada, who carries on business in Canada, or who realises a gain on the disposition of certain Canadian property.

Generally, a province or territory will also impose an income tax on persons resident, or carrying on business, in that jurisdiction. Certain provinces and territories also tax non-residents on employment income earned there. Additionally, Québec taxes non-residents on gains realised on the disposition of certain property situated in the province.

The combined federal and provincial/territorial rate of income tax imposed on corporations varies widely. In 2026, the highest combined rate of income tax applicable to non-Canadian-controlled private corporations was approximately 30%, while the lowest rate applicable to the ordinary business profits of such a corporation was approximately 23%.

Individuals are subject to graduated rates. In 2026, the highest marginal combined federal and provincial/territorial rate of tax on the taxable income of an individual was approximately 54.8%, while the lowest top marginal combined federal and provincial/territorial rate was approximately 44.5%.

Canada also levies a 25% withholding tax (WHT) on the gross amount of certain types of Canadian-source income of non-residents. Payments subject to WHT include dividends; certain types of interest, rents, and royalties; and certain management or administration fees. WHT can also apply to payments made between non-residents in some circumstances, including if the payments relate to a Canadian business or to certain Canadian property.

Generally, there is no Canadian WHT on interest paid by a Canadian resident to an arm’s-length non-resident creditor. While WHTs are imposed on the non-resident recipient, the payer is responsible for withholding the tax from amounts paid to the non-resident and for remitting the withheld amount to the government.

A corporation incorporated in Canada will generally be resident in Canada and subject to Canadian federal income tax on its worldwide income.

The calculation of the subsidiary’s income will be subject to the rules in the Income Tax Act (Canada) and any applicable provincial or territorial tax legislation. Income generally includes 50% of capital gains.

Expenses of carrying on business are deductible only to the extent they are reasonable. Depreciation of capital costs is deductible only in accordance with Canada’s capital cost allowance rules. Neither federal nor provincial/territorial income tax is deductible in computing income subject to the other level of tax.

Subject to certain exceptions, dividends may be paid between related Canadian corporations on a tax-free basis. Groups of corporations may not file consolidated income tax returns. Accordingly, business losses of the subsidiary will not be directly available, for Canadian tax purposes, to offset income of an affiliated company. However, it may be possible to enter into intra-group income balancing transactions in certain situations.

Transactions between the subsidiary and any person with whom it does not deal at arm’s length, including its parent corporation, must generally be effected for tax purposes on a fair market value basis. Certain contemporaneous documentation may also be required under Canada’s transfer pricing rules.

The debt/equity structure of the subsidiary will be subject to thin-capitalisation rules, which operate to deny the deduction of interest payable to specified non-residents (generally, non-resident group members) by the subsidiary to the extent that the subsidiary is thinly capitalised.

Interest deductions will generally also be limited by Canada’s excessive interest and financing expenses limitation (EIFEL) rules. These rules will typically limit the deduction of interest and financing expenses net of interest and financing revenues to 30% of tax EBITDA.

In some cases, the subsidiary may be established as an unlimited liability company under the laws of Alberta, British Columbia, or Nova Scotia. This may be done to access certain advantages of both a branch and a subsidiary operation for a US parent corporation. US tax advice should be obtained on this point. Certain provisions in the Canada–United States Income Tax Convention (1980) and Canada’s proposed hybrid mismatch arrangement rules released on January 29 2026 should also be considered.

The WHT regime will apply to the subsidiary’s payments to non-residents, including interest and dividends. In the case of payments by a subsidiary to a US-resident parent, the US convention generally eliminates WHT on interest. The benefits of the US convention are, subject to some exceptions, available only to “qualifying persons”.

On June 20 2024, Canada enacted the Global Minimum Tax Act, implementing portions of the pillar two rules. A multinational enterprise group may fall within the scope of Canada’s pillar two rules if the group has a subsidiary or permanent establishment located in Canada.

Subject to the provisions of any applicable income tax convention, a non-resident corporation will be subject to Canadian income tax on business profits from carrying on business in Canada through a branch operation. A non-resident carrying on business in Canada must also pay a branch tax.

The branch tax essentially takes the place of the WHT that would have been payable on dividends paid by a Canadian subsidiary carrying on the business. Because the WHT is imposed on dividends when they are paid, and the branch tax is imposed when the profits are earned, it may be favourable in some circumstances to establish a subsidiary rather than a branch.

If the non-resident of Canada is (i) a resident of a jurisdiction that has entered into an income tax convention with Canada and (ii) entitled to the benefits of that convention, the non-resident will generally be taxable on its business profits earned in Canada only to the extent that such profits are attributable to a permanent establishment situated in Canada.

Canada’s income tax conventions may contain rules deeming a non-resident to have a permanent establishment in Canada in certain circumstances. Under certain of Canada’s income tax conventions, a non-resident may have a significant business presence in Canada without being deemed to have a permanent establishment in Canada.

In the case of the US convention, treaty benefits are generally available only to US residents who are qualifying persons. The availability of treaty benefits under an income tax convention that is covered by the Multilateral Convention to Implement Tax Treaty Related Measures to Prevent Base Erosion and Profit Shifting may be subject to the principal purpose test.

Generally, the income of the branch will be computed under the same rules that are applicable to the computation of the subsidiary’s income, including the thin-capitalisation and EIFEL rules.

If the Canadian operation will incur startup losses, it may be possible for the non-resident to deduct these losses in computing its income for its domestic tax purposes if the Canadian business is carried on through a branch operation. Tax advice should be obtained in the non-resident’s local jurisdiction. When the Canadian business becomes profitable, it may be possible to transfer the branch operation to a newly incorporated Canadian subsidiary with no significant adverse income tax consequences; however, the sales and other tax consequences of such a transfer should be carefully considered.