TAX MATTERS: Thin capitalisation rules

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Companies usually finance their operations either by debt or equity. Where a company is financed primarily by debt it is deemed to be thinly capitalised. Thus, thin capitalisation can be described as the use of high proportions of loan to equity capital to gain tax advantages.

The Income Tax Act discourages thin capitalisation by limiting interest deductible for income tax purposes. The provision was introduced in 2001 initially to restrict thin capitalisation in the mining sector and extended to cover other sectors of the economy in 2003.