On February 4, 2022, the Department of Finance released sweeping draft legislation that would limit the deduction of interest and financing expenses to a fixed ratio that comes into force for taxation years commencing after October 1, 2023.

The new rules result in a significant policy change, therefore Canadian tax legislation is shortly entering into a new regime of interest deductibility. Historically, interest expenses were fully deductible to the extent that they were incurred for the purpose of earning income and were not generally otherwise restricted (barring a few exceptions). The new rules will work in tandem with other interest deductibility rules such as the thin-capitalization rules.

The new regime is in line with the Organization for Economic Co-operation and Development (“OECD”) base erosion and profit sharing (“BEPS”) initiatives, notably Action Item 4 addressing interest deductions and other financial payments. The OECD’s BEPS initiative was implemented in the spirit of combatting abusive international tax planning undertaken by multinational entities. Canada’s new interest regime will however affect a great many of taxpayers, including some small and medium sized owner managed businesses.

Following an initial consultation period, Finance confirmed that it would be proceeding with the implementation of the proposed “excessive interest and financing expenses limitation” (“EIFEL”) rules in substantially the same form as initially proposed.  Revised draft legislation was released on November 3, 2022, with another consultation period in effect until January 6, 2023. 


Generally, the new rules provide that net interest expense and financing deductions are limited to a fixed ratio of 30% (40% in the first year of application) of “Adjusted Taxable Income”, generally being earnings before interest, taxes, depreciation and amortization or EBITDA. Adjusted Taxable Income would be computed as follows:

  • Commence with taxable income for the taxation year, before considering the EIFEL rules, less applied non-capital and net capital losses;
  • Add back certain amounts, such as interest and financial expense, capital cost allowance (including any pro-rata share from a partnership) or trust amounts allocated to beneficiaries, and
  • Deduct certain amounts, such as interest and financing revenues, foreign source income offset by foreign tax credits or amounts allocated from a trust.

Alternatively, if an election is filed, a higher percentage of Adjusted Taxable Income based on a consolidated group’s net third-party interest expense to EBITDA ratio, known as the “group ratio” could be used. Certain corporate groups could qualify for the group ratio provided audited consolidated financial statements are available and other conditions are met.

Any interest and financing expenses that are restricted as result of the fixed ratio restriction could be carried forward indefinitely until there is capacity available under the EIFEL rules to deduct the restricted amount.

Where an entity’s interest and financing expenses for a year are less than its maximum deductible amount, its “excess capacity” can be used in one of three ways. It can be used to offset a carry forward of interest and financing expenses that were restricted in a prior year. It can be carried forward for up to three years and used to claim interest and financing expenses that would otherwise be denied. Or, it can be transferred by joint election to another entity in the group for current use.


The rules are broad and therefore do not discriminate among any particular industry or segment of the economy, however it will notably affect highly leveraged businesses such as real estate and capital-intensive industries. The rules will apply to any corporation or trust other than an “excluded entity”. Excludes entities are:

  • Canadian-controlled private corporations (CCPCs) that have taxable capital employed in Canada of less than $50 million (including the taxable capital of any associated corporations);
  • Certain Canadian corporations and trusts, either alone or in groups, whose aggregate net interest and financial expenses among their Canadian members is $1,000,000 or less;
  • Taxpayers resident in Canada in respect of which all of the following conditions are met:
  1. All or substantially all of the businesses, undertakings and activities of the taxpayer and each eligible group entity in respect of the taxpayer are carried on in Canada;
  2. The group’s foreign affiliate holdings are de minimis – meaning the greater of the book cost of all foreign affiliate shares held by the group and the fair market value of the assets of all foreign affiliates held by the group does not exceed $5,000,000;
  • No non-resident owns 25% or more of the votes or fair market value of the taxpayer; and
  1. All or substantially all of the interest and financing expenses of any group member is payable to persons or partnerships that are not non-arm’s length “tax indifferent investors”, defined to include entities exempt from tax and non-residents of Canada.


The new regime essentially restricting interest and financing expenses to 30% of Adjusted Taxable Income will have a significant impact. As mentioned before, the rules are broad and will affect a great many of taxpayers, including some small and medium sized businesses as the exception thresholds for the rules are relatively low: (i) the $1,000,000 de minimis exemption is low when compared to other jurisdictions such as the United Kingdom that provides for a £2,000,000 exemption (approximately $3,000,000), and (ii) the exclusion threshold based on taxable capital employed in Canada is only $50,000,000.

The flexible group ratio will not be available for smaller and mid sized owner manager businesses that do not have consolidated audited financial statements.

The cost of compliance will increase due to additional cumbersome information gathering. Taxpayers will need to determine whether they are subject to the new rules and, if so, compute the restricted amounts, determine amounts to transfer, and track carryover balances.

For more information, please contact your Versatile Accounting Advisor