Foreign Accrual Property Income, or FAPI for short, refers to a set of rules in the Income Tax Act (the “Act”) that deal with foreign (i.e. non-Canadian) corporations with Canadian-resident owners that earn passive income. Generally speaking, the passive income referred to in this article is in reference to income from property, rental/royalties/investment income, or taxable capital gains from the disposition of property that is not used in an active business (“active business” covers most types of businesses, aside from rental/investment businesses). That said, there are also certain types of income and property that are specifically excluded from FAPI, such as taxable dividends deductible under section 112 of the Act, or income deemed to be income from an active business.
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. By doing this, the taxes on the income (especially if the foreign subsidiary was in a tax-haven jurisdiction) would be deferred indefinitely.
A corporation’s FAPI for the year is calculated by adding up all amounts qualifying as FAPI, less any foreign accrual property losses (“FAPLs”), allowable capital losses, and foreign accrual capital losses (“FACLs”) for the previous twenty years and the following three years. Note that FAPI can never be a negative amount, meaning that a foreign corporation owned by a Canadian-resident with net losses are not available to offset income from other sources. In addition, the losses of one foreign corporation cannot be used to offset the FAPI of another. However, if the foreign jurisdiction has a tax treaty with Canada, the Canadian-resident taxpayer would typically receive foreign tax credits for the amount of tax paid in the other country. The full scope of what is and is not subject to FAPI is too broad for this article, and requires a detailed review of the taxpayer’s particular circumstances.
From a compliance standpoint, a corporation with foreign affiliates is required to file Form T1134 (dealing with foreign affiliates) within 15 months after the end of the taxation year. A corporation may also need to file a Form T106 (dealing with certain transactions with non-residents), Form T1135 (dealing with foreign property), and Schedule 25 on its T2 return (dealing with investment in foreign affiliates). Unfortunately, a Canadian resident’s filing requirements for offshore assets can be very onerous and complex.
FAPI is a very complex set of rules that can easily trip up taxpayers. If you are concerned that you may have been obligated to pay tax on FAPI in the past, or would like to verify whether your off-shore corporation or investments are currently liable for FAPI, please contact one of our tax lawyers for a consultation. In some cases, it may be appropriate to considering filing an application under Voluntary Disclosure Program if FAPI has been unreported in the past.