Section 113

Subsection 113(1) - Deduction in respect of dividend received from foreign affiliate

Administrative Policy

2004 Ruling 2004-0103111R3 - Foreign affiliates; indirect payment

Ruling that a U.S. LLC would be considered a corporation, that the ownership interest of a member would be considered shares, and that distributions would be considered to be dividends.

93 C.R. - Q. 59

Where all of the shares of a non-resident corporation are owned by a trust whose sole beneficiary is a corporation resident in Canada, dividends paid by the non-resident corporation to the trust that are then paid by the trust to the Canadian corporation will be received as income from a trust and not dividends, unless the trust is a bare trust. Accordingly, if the trust is not a bare trust, s. 113(3) will not apply.


Kenneth Snider, "Selecting the Foreign Business Entity: A Review of the Canadian Tax Treatment of U.S. Taxes Paid By a Member (Shareholder) of a U.S. Limited Liability Corporation", International Tax Planning, 2002 Canadian Tax Journal, Vol. 50 No. 2, p. 705.

Lanthier, "Emerging Income Tax Issues: Public Service 2,000, International Finance Companies, and U.S. Limited Liability Companies", 1993 Conference Report, pp. 3:19 - 29

Discussion of U.S. limited liability companies.

Paragraph 113(1)(a)

Administrative Policy

15 May 2019 IFA Roundtable Q. 9, 2019-0798761C6 - Surplus Documentation

CRA generally denies a s. 113(1) deduction where Canco has failed to prepare surplus accounts
essentially the same comments made in 11 October 2019 APFF Roundtable, Q.8

Canco, which did not prepare a detailed calculation of its exempt surplus, hybrid surplus and taxable surplus accounts, nor of its hybrid underlying tax and underlying foreign tax accounts in respect of FA. FA claimed a s. 113(1) deduction (the “113 Deduction”) equalling the amount of a dividend received from a wholly-owned foreign affiliate (“FA”) based on the general ordering rules in Regs. 5900(1) and 5901(1). Should a more careful review indicate that the dividend was not otherwise fully sheltered by the 113 Deduction, Canco would wish to utilize the adjusted cost base (“ACB”) of the FA shares.

Are detailed surplus account computations essential to support the 113 Deduction?

CRA indicated that if a complete surplus computation is not provided to it, its current general practice is to deny the deduction under s. 113(1). Furthermore, s. 230(1) specifically requires taxpayers to retain records and books of account in such form, and containing such information, as will enable the determination of taxes payable under the Act. An unsupported s. 113(1) claim could be subject inter alia to ss. 152(4), 163(2), 163(2.2) or 239(1), depending on the circumstances.

Locations of other summaries Wordcount
Tax Topics - Income Tax Regulations - Regulation 5901 - Subsection 5901(2.2) failure by Canco to prepare surplus accounts precludes late- filed Reg. 5901(2)(b) election 236

2 November 1990 T.I. (Tax Window, Prelim. No. 2, p. 11, ¶1049)

Interest paid by U.S. subsidiary which is recharacterized as a dividend for U.S. purposes will be taxed as interest income in the hands of the Canadian parent.

81 C.R. - Q.12

RC will not issue rulings allowing a Canadian corporation to use a Netherlands corporation as an intermediary to make interest-bearing loans to a U.S. corporation.


Alex Pouchard, Paloma Nunez, "Luxembourg Court Rules on the Tax Treatment of MRPS", International Tax Highlights (IFA Canada), Vol. 1, No. 2, August 2022, p. 5

Finding that MRPS were equity (p. 5)

  • The highest Luxembourg tax court (in March 31, 2022 Administrative Court cases nos. 46131C and 46132C) concluded that the mandatorily redeemable preference shares (MRPS) issued by a Luxembourg company to its sole shareholder qualified as equity, rather than the dividends giving rise to interest deductions for Luxembourg income tax purposes (based on their alleged economic substance).

Factors pointing to equity treatment (p.5)

  • Although the MRPS had some debt-like features (10-year maturity, no voting rights except as provided under the Luxembourg commercial law, and cumulative and preferred fixed dividends), the court considered that the MRPS involved no evident mismatch between the legal form adopted (share capital) and the underlying economic reality of the provision of funds by a single shareholder to its subsidiary.
  • The court also emphasized that the preferred dividends depended on there being a net profit after payment of the company’s creditors (thus placing the MRPS holder on a different footing from a creditor) - and furthermore, the company had treated the MRPS as equity in its financial statements.

Nathan Boidman, Michael N. Kandev, "Expected Adverse Effects of Proposed U.S. Anti-Hybrid Regulations on Inbound Financing by Canadian MNEs", Tax Notes International, February 11, 2019, p. 623

Anti-hybrid rule in IRC s. 267A (p. 624)

[S]ection 267A targets deduction/non-inclusion (D/NI) situations.

A broadly worded grant of regulatory authority giving the Secretary of the Treasury the power to issue any regulations or other guidance that might be necessary or appropriate to carry out the purposes of the section accompanies this simple rule.

Cross-border repo financing structure (p. 628)

A simple repo would involve a U.S. holding company selling special preferred shares in a subsidiary U.S. operating company to the U.S. group's foreign parent subject to a forward (re)purchase agreement under which the foreign parent would sell the preferred stock back to the U.S. holding company (or a disregarded LLC subsidiary). Under the substance-over-form principle, U.S. tax law would see this arrangement as secured lending by the foreign parent to the U.S. group giving rise to otherwise deductible interest. In Canada, the U.S. company's preferred shares would normally entitle a Canadian parent to dividends that can benefit from the exempt surplus dividend received deduction. However, prop. reg. 1.267A-2(a)(3) and Example 2 show that when (and if) the regulations become final, repo financings would give rise to nondeductible interest in the U.S.

Lanthier, "Foreign Holding Companies and Finance Vehicles: An Update", 1990 Conference Report, c. 42

Paragraph 113(1)(a.1)


Sandra Slats, David Burns, "Canada Considers New Rules on Repatriation", Tax Notes International, Vol 63, No. 9, 29 August 2011, p. 641

General discussion of hybrid surplus proposals.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 90 - Subsection 90(4) 2

Paragraph 113(1)(c)

Administrative Policy

11 June 2013 STEP Roundtable, 2013-0480321C6 - 2013 STEP Question 6 US LLCs - FAPI, FAT and FTCs

Is the US tax paid by a Canadian-resident taxpayer on the income (which also is foreign accrual property income) of an LLC which is owned by it (and is a controlled foreign affiliate) considered to be foreign accrual tax in respect of the LLC?

After noting that the US tax paid paid by the taxpayer would not qualify as FAT, CRA stated that if the taxpayer was a corporation:

any US tax paid in respect of [its] share of the income of the LLC would not be creditable for purposes of subsection 126(1) nor deductible for purposes of subsection 20(12) because the tax would be paid by a corporation in respect of income from a share of the capital stock of a foreign affiliate of the corporation. However…a deduction under paragraph 113(1)(c) would be available in respect of the US tax paid by a corporation resident in Canada in respect of the income of an LLC where a dividend distribution out of taxable surplus is received from the LLC.

Locations of other summaries Wordcount
Tax Topics - Income Tax Act - Section 20 - Subsection 20(12) deduction for US tax on LLC income which also is FAPI 161
Tax Topics - Income Tax Act - Section 95 - Subsection 95(1) - Foreign Accrual Tax 326


Tim Barrett, Kevin Duxbury, "Corporate Integration: Outbound Structuring in the United States After Tax Reform", 2018 Conference Report (Canadian Tax Foundation), 18:1-76

FAPI inclusion if US tax rate on FAPI is only 21% - but potential s. 113(1)(c) deduction against other income on distribution (p. 18:11)

[T]he pre-TCJA 35 percent US federal corporation tax rate enabled many Canadian taxpayers to overlook whether an FA earned FAPI. …

[A]ssume that a CFA (CFA 1) of a CCPC earned $100 in year 1 of the CCPC. … [T]he income inclusion would be completely offset by a deduction under subsection 91(4) because CFA 1 paid FAT of $35. For year 1, this is the same outcome, from a Canadian tax perspective, as if CFA 1 had instead earned income that was not FAPI. By contrast, if CFA 1 paid FAT of only $21 because of the reduced US corporate rate, then the CCPC would recognize a $16 income inclusion in year 1.46 This $16 would be added to the CCPC’s ACB of the CFA 1 shares, pursuant to paragraph 92(1)(a).

… [A]ssume that CFA 1 then repatriated the after-tax amount ($100 − $35 = $65) to the CCPC in year 2. Assuming that the amount was FAPI earned by CFA 1, the CCPC would be entitled to a full deduction under paragraph 113(1)(b) (that is, UFT ($35) × RTF − 1 (3) = $105). The CCPC would not receive any further deduction for withholding tax because of the limitation in subparagraph 113(1)(c)(ii). This is the same result as if the dividend had been prescribed to be paid from exempt surplus of CFA 1. …

By contrast, if the applicable US corporate tax rate is only 21 percent … [and] the amount of the dividend was derived from FAPI earned by CFA 1, then the CCPC would be entitled to only a $63 deduction under paragraph 113(1)(b), with the balance of the dividend being deducted under subsection 91(5). In addition, an amount would be deductible under paragraph 113(1)(c). Because the CCPC’s deductions under subsection 91(5) and paragraph 113(1)(b) are already sufficient to shelter the dividend paid from taxable surplus, the CCPC would be able to use the subsection 113(1)(c) deduction to shelter other income. If the amount of the dividend was instead derived from active business income earned by CFA 1, then the entire amount of the dividend would be offset by a deduction under paragraph 113(1)(a) (assuming that it was paid from exempt surplus) … .

Income inclusion if CMC of FA distributes its active-business earnings (p. 18:12)

In a similar vein, the reduction of the US federal corporate tax rate from 35 to 21 percent may also necessitate a determination of whether central management and control of an FA is exercised in Canada. … [I]f an FA incorporated in the United States is nonetheless centrally managed and controlled in Canada, its net earnings from an active business will be added to its taxable surplus rather than its exempt surplus. …

[P]aying a $79 dividend from exempt surplus versus taxable surplus produces different tax results if the applicable US tax rate is only 21 percent (that is, $100 − $21 = $79):

  • In the case of a dividend prescribed to be paid from exempt surplus, the CCPC would be entitled to a full deduction under paragraph 113(1)(a). The CCPC would not be entitled to any further deduction under paragraph 113(1)(c). It would be able to use the withholding tax only to claim credit against other qualifying US-source income.
  • If the dividend was paid out of taxable surplus, the CCPC would be required to use the deductions under both paragraphs 113(1)(b) and (c) to shelter the dividend inclusion. However, even then there would be $0.20 of unsheltered income that was recognized by the CCPC.

Manjit Singh, Andrew Spiro, "The Canadian Treatment of Foreign Taxes", 2014 Conference Report, (Canadian Tax Foundation), 22:1-37

113(1)(c) deduction where LLC dividends paid after Cdn corporate member pays tax on LLC FAPI (p. 26)

If the LLC is a foreign affiliate earning FAPI…U.S. tax paid by the Canadian corporation in respect of the LLC's income will not qualify as UFT, as the definition of UFT - even as amended by Bill C-43 - only applies to taxes paid by a foreign affiliate of the taxpayer, not by the taxpayer itself. [fn 115: … 9703535…] Accordingly, no deduction will be available under paragraph 113(l)(b) in respect of distributions paid out of the LLC's taxable surplus. However, the CRA considers the U.S. tax paid for a year in respect of an LLC's income to be in respect of dividends derived from the shares of the LLC, even if the LLC does not pay dividends in the year for which the U.S. tax is paid. Accordingly, when the LLC pays a taxable surplus dividend, relief from double tax is available in the form of a deduction under paragraph 113(l)(c). [fn 116: … 9703535…9821495…2013-0480321C6 [above]…]

…[A] timing issue remains in this latter context if the LLC is a controlled foreign affiliate and is not able to distribute all of its income each year, as the applicable share of the LLC's FAPI will be required to be included in the member's income in the taxation year in which it is received, without an offsetting deduction for FAT.

Paragraph 113(1)(d)

Administrative Policy

17 May 2022 IFA Roundtable Q. 5, 2022-0928101C6 - Surplus Account Maintenance

s. 113 deductions denied if there is insufficient documentation to support the FA’s surplus computations (even where Pt. I tax computations do not depend thereon)

Regarding a request for additional guidance on the documentation required in light of the CRA position noted at 5 May 2019 IFA Roundtable Q.9, 2019-0798761C6 that “[i]f complete surplus computations are not provided to the CRA, the current CRA general practice is to deny the deduction under subsection 113(1)” (even if the shares of the foreign affiliate had sufficient ACB (a.k.a., pre-acquisition surplus) to cover any deficiencies in its other surplus), CRA stated:

Even if the determination of tax payable by a taxpayer in a given year does not rely on surplus balances, accurate surplus account balances of a foreign affiliate with respect to a taxpayer should be prepared by the taxpayer on an annual basis, and relevant books, records, documents and information to support such surplus accounts balances should be retained. Each component of the surplus accounts must be validated by appropriate documentation and such documentation should be maintained and retained accordingly. If documentation is not available to accurately support surplus account calculations at the time surplus is utilized, any deduction claimed based on surplus account balances will be denied and other adjustments may also be required. …

What constitutes appropriate documentation depends on the specific facts and circumstances, but may include:

  • non-consolidated financial statements of the foreign affiliate,
  • trial balance of the foreign affiliate,
  • complete minute books of the foreign affiliate,
  • income tax returns and all relevant supporting schedules for the income tax returns of the foreign affiliate,
  • support for income tax paid by the foreign affiliate, and
  • relevant supporting documentation:
    • describing the business(es) of the foreign affiliate,
    • related to the nature of the income earned by the foreign affiliate,
    • related to transactions involving the foreign affiliate, and
    • related to dividends paid or received by the foreign affiliate.

Subsection 113(5)


Joint Committee, "Hybrid Mismatch Arrangements Proposals", 30 June 2022 Submission of the Joint Committee

Relief for foreign withholding tax on dividends subject to s. 113(5) (under “2. Recognition of Foreign Withholding Tax”)

  • Where a dividend is subject to the denial of the s. 113 deduction by s. 113(5) for a dividend received from a foreign affiliate, no deduction is available under s. 113(1) for foreign withholding tax paid on the dividend, and the dividend remains “income from a share of the capital stock of a foreign affiliate of the taxpayer”, such that no foreign tax credit under s. 126(1) nor deduction under s. 20(12) is available for the foreign withholding tax paid on the dividend.
  • It is recommended that relief be provided for foreign withholding tax paid on dividends that are subject to s. 113(5) by modifying it to allow grossed-up deductions for such withholding tax.