The core provision of EIFEL is a mechanical, multi-layered calculation that a taxpayer must work through to arrive at the “excessive” IFE for a taxation year, under subsection 18.2(2). To determine the non-deductible amount of IFE, a taxpayer multiplies its IFE for the taxation year (except amounts incurred through a partnership*) by the following formula to arrive at the non-deductible amount of IFE, if any:
(A – (B + C + D + E)) / F
where for the taxation year,
A = taxpayer’s IFE
B = taxpayer’s “adjusted taxable income” multiplied by the fixed ratio, or taxpayer’s allocated group ratio amount
C = taxpayer’s interest and financing revenues
D = taxpayer’s “received capacity”
E = taxpayer’s “absorbed capacity”
F = taxpayer’s IFE with possible adjustments
Below is a general summary of each of the above elements.
Element A: IFE
Apart from “excluded interest” and “exempt IFE”, IFE broadly includes ordinary interest and financing expenditures otherwise deductible under the Act as well as various other items, including:
- interest and financing expenses paid or payable after February 4, 2022 that were capitalized and deducted as capital cost allowance, including those contributing to realized terminal losses;
- certain amounts paid or payable under certain agreements and arrangements, considered economically equivalent to interest;
- interest amounts embedded within certain lease payments;
- partnership level IFE attributable to a taxpayer in accordance with its share of partnership income or loss; and
- the taxpayer’s share of any IFE of a controlled foreign affiliate included in computing the affiliate’s foreign accrual property income (FAPI), foreign accrual property loss (FAPL) or capital gains or losses**.
Element B: Adjusted taxable income multiplied by the fixed ratio or an allocated group ratio amount
Adjusted taxable income generally refers to earnings before interest, taxes, depreciation, and amortization (EBITDA), calculated for tax purposes as follows:
- start with taxable income for the taxation year (which already includes any intercorporate dividend deductions) before considering the EIFEL rules, less applied non-capital losses (with specified adjustments) and certain amounts regarding controlled foreign affiliates of the taxpayer;
- add amounts such as IFE, capital cost allowance (including any pro-rata share from a partnership) or trust amounts allocated to beneficiaries, resource pool and terminal loss deductions, certain government assistance, certain FAPI amounts not included in the IFE or interest and financing revenue of a controlled foreign affiliate, and a portion of non-capital losses claimed including specified amounts carried forward from a pre-EIFEL year***; and
- deduct certain amounts, such as interest and financing revenues, foreign source income offset by foreign tax credits or amounts allocated from a trust.
- The adjusted taxable income would then be multiplied by the 30% fixed ratio (40% during the transition period) or the taxpayer’s allocated group ratio amount, where a valid joint election is made.
Group ratio amount
Provided certain conditions are met, Canadian members of a consolidated group (and certain deemed “single member groups”) of corporations and/or trusts may be eligible to file a joint election to receive an allocated amount based on a group ratio instead of following the fixed ratio method.
1.1 x Group net interest expense Group adjusted net book income
The factor of 1.1 provides relief for book-to-tax timing differences. The numerator generally comprises the group’s net amount of third-party interest expense (calculated using acceptable accounting standards). The denominator is generally the group’s consolidated financial statement EBITDA amount as determined using acceptable accounting standards (however, the group may jointly elect to use fair values provided this is done the first time an election to apply the group ratio is made). The group ratio is deemed to be nil where the group does not have an overall positive book EBITDA.
Once the group ratio is determined—subject to certain limitations—the group would calculate the maximum amount of deductible IFE based on the group ratio multiplied by the adjusted taxable income of each of the Canadian group members. The group would then allocate the resulting amount of deductible IFE amongst the group members as part of the election. This potentially allows for the collective deduction capacity of the Canadian group to be allocated to group members that would benefit the most. The group ratio election is made on an annual basis; thus taxpayers may want to model how the group ratio and fixed ratio apply on an annual basis to determine which provides the most favourable treatment.
Element C: Interest and financing revenues
The group ratio is calculated as follows:
- This element includes a broad range of ordinary interest and financing revenues, other than “excluded interest”. It also includes other items such as:
-
- guarantee fees and similar amounts received for the repayment of debt;
- amounts received or receivable under certain agreements and arrangements economically equivalent to interest;
- certain lease financing amounts;
- partnership level interest and financing revenues attributable to a taxpayer in accordance with its share of partnership income or loss;
- the taxpayer’s share of any interest and financing revenues of a controlled foreign affiliate included in computing the affiliate’s FAPI/FAPL or capital gains or losses, less any deductions for certain amounts of foreign tax paid by the affiliate other than for Canadian withholding tax; and
- certain deemed interest amounts, such as amounts related to strip bond coupons.
Elements D and E: “received capacity” and “absorbed capacity” amounts
These two elements of the formula represent amounts that may allow a taxpayer to deduct net IFE in a taxation year where it would otherwise exceed the maximum allowable deduction under EIFEL.
Received capacity
Element D represents received capacity for the taxation year transferred to a recipient by a transferor that had available “cumulative unused excess capacity”. To be effective, a joint election is filed by the transferor and an information return is filed by each transferee regarding the amounts transferred. All transferor and transferee entities must be eligible group entities and be either a taxable Canadian corporation or a fixed interest commercial trust. The excess capacity eligible to be transferred is net of any restricted IFE denied to the transferor in a prior year (so that the transferor uses up its own capacity first). A group member’s cumulative unused excess capacity for a taxation year is unused excess capacity carryforwards from the three immediately preceding taxation years, plus any excess capacity it has for the year. Any received capacity must be fully utilized by the transferee in the taxation year of the transfer, and it is first applied against its restricted IFE carried forward from prior years. Note that financial institution group entities or financial holding corporations can only transfer unused excess capacity to other financial institution group entities, financial holding corporations or special purpose loss corporations (subject to certain restrictions).
Absorbed capacity
Element E captures a taxpayer’s absorbed capacity for the year, comprising its own unused excess capacity carryforwards used in the year to reduce or eliminate denied deductions of IFE. Generally, a taxpayer has excess capacity in a given taxation year when the maximum amount of IFE that it’s allowed to deduct under EIFEL exceeds the actual amount of IFE incurred in the year.
Cumulative unused excess capacity is the accumulation of a taxpayer’s unused excess capacity for the current taxation year and the immediately preceding three taxation years that hasn’t been used to deduct the taxpayer’s own IFE or transferred to another Canadian group member. When a taxpayer uses the group ratio approach for a taxation year, it’s considered to not have excess capacity for that taxation year.
The transitional rules allow a taxpayer to jointly elect with other group members for the purpose of determining excess capacity for each of the three taxation years (pre-regime years) immediately preceding the first taxation year in which the EIFEL rules will apply.
Element F: IFE with possible adjustments
This element generally equals the taxpayer’s IFE, but adding back any reductions allowed for income or gains reducing the taxpayer’s cost of funding. Where the taxpayer’s IFE includes an amount regarding IFE of a controlled foreign affiliate, that amount is similarly adjusted to exclude any reductions for income or gains reducing the cost of funding of the affiliate.
Carryforwards of denied IFE
If a taxpayer’s net IFE are denied under EIFEL, they would be considered “restricted IFE” and could be carried forward (i.e., for use in a future taxation year where there is capacity available) indefinitely, subject to certain conditions.
Example scenario
Consider a Canadian corporation (CanCorp) with a December 31 year-end that isn’t an excluded entity, isn’t a member of a partnership, doesn’t own any controlled foreign affiliates, and has no losses carried forward. For 2025, CanCorp has the following amounts for the year:
IFE of $4M (which would otherwise be fully tax deductible)
taxable income before considering EIFEL of $3.5M
capital cost allowance of $1M
interest and financing revenues of $500,000
Let’s assume there are no other amounts that would impact CanCorp’s adjusted taxable income under EIFEL and IFE doesn’t include any adjustments relating to income or gains that reduce the cost of funding. CanCorp also doesn’t have any amounts of received capacity or absorbed capacity for the year and it isn’t eligible for the group ratio election.
Analysis and Calculations:
Since CanCorp isn’t an excluded entity, Canco must determine what portion, if any, of the $4M IFE isn’t deductible under EIFEL:
(A – (B + C + D + E)) / F
A = $4M, the amount of CanCorp’s IFE
B = $2.4M, calculated using the fixed ratio method, as follows:
Adjusted Taxable Income = $8M ($3.5M (net taxable income) + $4M (IFE) + $1M (capital cost allowance) - $500,000 (interest and financing revenues))
Fixed ratio for 2025 = 30%
Element B = $2.4M ($8M x 30%)
C = $500,000, the amount of CanCorp’s interest and financing revenues
D and E = zero, since there are nil amounts of received capacity or absorbed capacity for the year
F = $4M (equals A based on the assumption no adjustments are required)
The EIFEL calculation would result in a denial of $1.1M (27.5%) of CanCorp’s IFE, as follows:
= ($4M – ($2.4M + $500,000)) / $4M
= 27.5%
Therefore, the non-deductible portion of the $4M IFE would be $1.1M ($4M x 27.5%).
Result
In this example, CanCorp’s taxable income for 2025 would be increased from $3.5M to $4.6M under EIFEL due to $1.1 million of CanCorp’s IFE being considered excessive. This $1.1M would become restricted IFE that would generally be carried forward to a future taxation year if there is capacity available in that year.
*The potential income inclusion related to a partner’s share of the partnership’s IFE is determined under paragraph 12(1)(l.2).
**Where advantageous, a taxpayer could file an election so that all or part of the foreign affiliate’s IFE will not be deductible from certain income, including FAPI from the affiliate.
***To reduce taxpayers’ compliance burden, a non-calculated ‘flat’ 25% of such non-capital losses is used for this purpose, provided the losses were incurred in a year ending before February 4, 2022 and an election is filed with the CRA.
