How To File Foreign Business Income Taxes In Canada

It used to be that “foreign business income” was something only massive corporations worried about. Today, it’s Mark, a graphic designer in Toronto who freelances for a startup in New York. It’s Sarah, who sells handmade jewelry on Etsy to customers in France.

The digital economy has made it incredibly easy to earn money from anywhere. But while the internet has erased borders, the Canada Revenue Agency (CRA) definitely hasn’t.

One of the most common questions we get is, “If the money stays in my U.S. PayPal account, do I have to report it in Canada?” (Spoiler: Yes, you do.)

Navigating foreign income rules can feel like walking through a minefield of potential double taxation and penalty traps.

Here is how to handle it correctly without losing your hard-earned profits.

What Counts as “Foreign Business Income”?

Simply put, if you are running a business operation that generates revenue from outside Canada, that is foreign business income. This applies to a wide range of modern entrepreneurs, not just those with physical offices abroad.

For instance, you might be a freelancer or consultant earning fees from U.S. clients, or an e-commerce seller shipping products via Amazon FBA to buyers in Europe. It even applies to service providers, like a marketing agency in Vancouver that manages campaigns for clients in London.

It is important to distinguish this from foreign investment income, like dividends you might earn from holding Apple stock. Here, we are talking specifically about active income, where you trade your time, goods, or services for money.

Who Needs to Report It?

For any Canadian tax resident, the rule is absolute: you report worldwide income. The CRA looks at your residency, not the location of the bank account. It doesn’t matter if the funds were deposited into a U.S. bank, held in a Wise account, or paid out in Bitcoin. If you live here, you report it here.

This can be a surprise for new immigrants. If you recently moved to Canada, you generally start reporting your worldwide income from the day you became a tax resident. Conversely, if you are a non-resident who doesn’t live in Canada, you generally only report income that was specifically earned from a “permanent establishment” (like an office) inside Canada.

We’ve gotten this question asked many times before on our Forum, take a look to see what Allan & team have answered. 

How Is It Taxed? (The Mechanics)

The first hurdle is currency. The CRA requires you to convert everything into Canadian dollars, and using the correct exchange rate is critical. You generally cannot just use the net amount that hit your Canadian bank account after fees.

Instead, you should convert the gross income using the Bank of Canada exchange rate in effect on the day you earned it. However, for businesses with hundreds of small transactions, like that Etsy seller we mentioned, calculating a rate for every single sale is a nightmare. In these cases, the CRA often allows you to use the average annual exchange rate for the year, provided you are consistent in how you apply it.

Sole Proprietors vs. Corporations

If you are operating as a sole proprietor, the process is relatively straightforward. The foreign income is simply added to your personal income and taxed at your marginal rate, just like any other job.

If you have incorporated your business, the income is reported on your corporate return (T2). While this adds complexity, active business income earned abroad may still qualify for the Small Business Deduction in certain treaty situations, which can be a significant tax advantage.

How to Actually File It

Reporting this income isn’t about writing a note in the margins of your tax return; you need to use specific forms depending on your business structure.

For Sole Proprietors:

You will use Form T2125 (Statement of Business or Professional Activities). This is the exact same form used for Canadian business income. There is no separate “foreign business” form for your main personal return. You simply report your gross foreign income (converted to CAD) alongside your domestic income. Crucially, remember to keep your foreign expenses separate. You can deduct the cost of doing business—software subscriptions, advertising, travel—even if those bills were paid in USD or Euros.

For Corporations:

Reporting happens on the T2 Corporate Income Tax Return. This is significantly more complex, especially if you have a “permanent establishment” in the other country, such as a warehouse or a satellite office. That physical presence might trigger a requirement to file a tax return in that foreign country as well.

How to Avoid Double Taxation

This is the big fear: “If I pay tax to the IRS on this money, do I have to pay the CRA too?”

Ideally, the answer is no.

Canada has tax treaties with over 90 countries, including the U.S., UK, and Australia, designed specifically to prevent this. We use a mechanism called Foreign Tax Credits to fix it.

Here is how it works in practice: If you earned $100,000 in the U.S. and paid $15,000 in U.S. taxes, you still report the full $100,000 to Canada. When Canada calculates your tax bill, let’s say it comes to $25,000, we apply a credit for the $15,000 you already paid to the IRS. You only owe the difference ($10,000) to Canada. You pay the higher of the two rates, but you don’t pay double.

The Trap: The T1135 Form

While reporting income is standard procedure, reporting assets is where many business owners get fined.

If the total cost of your Specified Foreign Property exceeds $100,000 CAD at any point in the year, you must file Form T1135. This “foreign property” category is broader than most people realize. It includes foreign bank accounts and stocks held in foreign brokerages, but it also includes inventory held in foreign warehouses.

The penalty for missing this is aggressive. If you are even one day late, the CRA charges $25 per day, up to a maximum of $2,500. We have seen clients fined simply because they didn’t realize their inventory sitting in an Amazon U.S. warehouse counted as “foreign property.”

Common Mistakes That Trigger Audits

We see the same issues pop up repeatedly during audits. The most common is using the wrong exchange rate. People often use the rate from the day they transferred the money to Canada rather than the day they earned it. If the dollar shifted significantly in between, your revenue numbers will be wrong.

Another major error is missing the T1135 because of the “no income” fallacy. A business owner might think, “I didn’t sell anything this year, so I have nothing to report,” while sitting on $150,000 of inventory in a U.S. warehouse. That inventory is a reportable asset, regardless of sales.

Finally, never assume that “Tax Paid Abroad” means “File Nothing in Canada.” Even if you paid zero tax to Canada because your foreign credits covered the bill, you must file the return to prove it. If you don’t file, the CRA assumes you owe full tax on the entire amount.

Do You Need a Professional’s Help?

If you are just selling a few items to international buyers, you can likely handle this yourself. However, once you start nearing the $30,000 revenue mark (where GST/HST registration rules get tricky with exports), or if you are paying significant tax to a foreign government, the complexity spikes.

Specifically, if you have inventory or an office in another country, you trigger “nexus” issues that can have legal and tax implications in that jurisdiction. At Madan CA, we specialize in this cross-border puzzle, ensuring you stay compliant with the CRA while optimizing your tax credits so you don’t pay a penny more than necessary.

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FAQ: Foreign Business Income