Subpart F Income Explained: Passive Income in a CFC
The passive income U.S. shareholders of a CFC include each year, the high-tax exception, and the Canadian holding company case
Reviewed by the Fairlight Accounting cross-border tax team — U.S. & Canadian Tax Desks
Subpart F income is the income of a controlled foreign corporation that its U.S. shareholders include in their own income each year, distributed or not. It's mainly passive income — interest, dividends, rents, royalties, and investment gains — plus certain related-party sales and services income. A Canadian corporation's investment portfolio is the usual source for American owners.
On this page
The main categories
| Category | What it includes |
|---|---|
| Foreign personal holding company income | Interest, dividends, rents and royalties not from an active business, gains on investment property, net foreign currency gains |
| Foreign base company sales income | Income from buying from or selling to a related party where the goods are made and sold outside the CFC's country |
| Foreign base company services income | Income from services performed for or on behalf of a related party outside the CFC's country |
| Insurance income | Income from insuring risks outside the CFC's country |
For a typical Canadian private corporation, the first category — the portfolio's dividends, interest, and gains — is what matters.
The exceptions
| Exception | Effect |
|---|---|
| High-tax exception | Income taxed in Canada at more than 90 percent of the U.S. corporate rate (18.9 percent, section 954(b)(4)) can be excluded by election |
| De minimis rule | If gross foreign base company income plus gross insurance income is less than the lesser of 5 percent of gross income or US$1 million, none of it is subpart F income (section 954(b)(3)(A)) |
| Full inclusion rule | If foreign base company income plus gross insurance income exceeds 70 percent of gross income, all gross income is treated as subpart F income (section 954(b)(3)(B)) |
| Active rents and royalties | Rents and royalties from an active business are excluded |
| Related-CFC look-through | Dividends, interest, rents, and royalties from a related CFC, paid out of its non-subpart F income, are excluded (section 954(c)(6), made permanent by P.L. 119-21) |
A Canadian-controlled private corporation's investment income is taxed at roughly 50 percent in Canada, so the high-tax exception often applies — but part of that tax is refunded to the corporation when it pays taxable dividends, and a refund reduces the Canadian tax counted for the year it relates to, so the test has to be run with the refund in mind.
How it's taxed
The U.S. shareholder includes their pro rata share as ordinary income on their return; an individual can't claim a credit for the corporation's Canadian tax unless they make the section 962 election (the section 962 guide); the included amount becomes previously taxed earnings, not taxed again when distributed (unless the section 962 election was made). For CFC tax years beginning after 2025, every U.S. shareholder who owned the shares at any time during the year includes a share for the period owned — not only the year-end owner (P.L. 119-21, amending section 951(a)(2)).
Frequently asked questions
What is subpart F income?
Mainly passive income — interest, dividends, rents, royalties, and investment gains — earned by a controlled foreign corporation, included currently in its U.S. shareholders' income.
Does my Canadian company's investment portfolio create subpart F income?
Yes, if the company is a CFC and you're a U.S. shareholder — unless the high-tax exception or the de minimis rule applies.
Is subpart F income taxed twice?
It's taxed to you when earned; later distributions of the same earnings are previously taxed and not taxed again in the United States (unless you made the section 962 election), though Canada may withhold on the dividend.
How is subpart F different from GILTI?
Subpart F targets passive and related-party income; GILTI — renamed net CFC tested income from 2026 — reaches most of a CFC's other income, especially low-taxed active income.
Official sources
The IRS explains: “Certain U.S. citizens and residents who are officers, directors, or shareholders in certain foreign corporations file Form 5471 and schedules to satisfy the reporting requirements of sections 6038 and 6046, and the related regulations.” — Internal Revenue Service, About Form 5471, Information Return of U.S. Persons With Respect To Certain Foreign Corporations, https://www.irs.gov/forms-pubs/about-form-5471
Next step
Fairlight Accounting is a cross-border accounting and tax practice with a U.S. Tax Desk and a Canadian Tax Desk. Our U.S. Tax Desk and Canadian Tax Desk handle subpart F computations for U.S. shareholders of Canadian corporations, high-tax exception elections, portfolio restructuring, and previously taxed earnings tracking. See pricing or book a call.
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