The 2025 federal budget includes significant changes and clarifications to two areas of Canada's international tax rules: transfer pricing and investment income derived from foreign assets for the insurance sector. Read on for a breakdown of the key details.
Transfer pricing
Following a Department of Finance consultation paper and subsequent comments regarding the modernization of Canada's transfer pricing rules, the budget introduces new rules effective for taxation years/fiscal periods commencing after Nov. 4, 2025.
The three most significant changes from the existing rules in section 247 of the Income Tax Act are:
- An increase in the higher penalty threshold to $10 million. Formerly the lesser of $5 million and 10% of the Canadian taxpayer's gross revenues, the new threshold will now be the lesser of $10 million and 10% of the taxpayer's gross revenues.
- The introduction of new simplified documentation requirements, in specific circumstances.
- A shorter deadline for a taxpayer to provide said documentation. Following a written request from the Canada Revenue Agency, documentation must be provided within 30 days instead of the current three months.
In addition to the three changes above, the budget calls for:
- Greater analyses of the “contractual terms” and “economically relevant characteristics” of a transaction.
- Adjusting the quantum of transfer pricing adjustments to align with the arm's length principle and newly defined “arm's length conditions” and “economically relevant characteristics” with more specific comparability factors.
These budget provisions are meant to align Canada's tax legislation governing transfer pricing more closely with the Organization of Economic Co-operation and Development's (OECD) Model Tax Convention on Income and on Capital, specifically the arm's length principle in Article 9, and the OECD Transfer Pricing Guidelines.
Investment income derived from foreign assets supporting Canadian insurance risks
The budget clarifies that investment income derived from assets held by a foreign affiliate to support Canadian insurance risks will be included in the foreign accrual property income (FAPI) of the Canadian corporation. This rule will apply no matter which entity holds the assets.
