Budget 2025, introduced on November 4, 2025, proposes the most significant changes to Canada’s transfer pricing rules since they were first introduced in 1997. Those changes were set out in the Notice of Ways and Means motion that accompanied Budget 2025 and are now in Bill C-15, which is currently in first reading.  The transfer pricing amendments overhaul how cross-border arrangements are evaluated and bring Canada’s transfer pricing rules into alignment with the OECD Transfer Pricing Guidelines. Although not retroactive, the new rules will apply to all existing cross-border structures beginning with taxation years of taxpayers that start after November 4, 2025, meaning long-standing arrangements will soon face a fundamentally different statutory framework.

The federal government expects these measures to generate $510 million in additional revenue over five years, signaling increased audit activity and a far broader range of potential adjustments.

Why was reform necessary?

The Department of Finance’s 2023 Consultation on Reforming and Modernizing Canada’s Transfer Pricing Rules (the “Consultation Report”) identified several structural weaknesses in Canada’s transfer pricing rules. Most importantly, the rules did not provide a coherent statutory method to operationalize the arm’s-length principle in Article 9 of the OECD Model Convention.

Courts were left to fill the gap. In cases such as Cameco Corporation v The Queen (2018 TCC 195, affirmed, 2020 FCA 112), the Tax Court and the Federal Court of Appeal focused heavily on the legal form of intra-group arrangements and on whether hypothetical arm’s-length parties could have entered into the transactions. Because the statute did not require an analysis of economically relevant characteristics, define “conditions,” or prescribe a delineation step, courts regularly accepted structures that did not reflect economic substance or the real-world conduct of the parties.

The Department of Finance concluded that Canada’s rules needed modernization to align with the OECD Transfer Pricing Guidelines, constrain reliance on legal form, and ensure pricing reflects functions, assets, and the economically relevant circumstances of the parties to the transaction.

What is new? A new two-step framework

Budget 2025 replaces the prior text of subsection 247(2) of the Income Tax Act with a mandatory two-step process closely modeled on the OECD Guidelines.

Step 1: identify and accurately delineate the transaction

The two-step process in the new paragraph 247(2)(b) requires taxpayers to identify the “actual conditions” (a new defined term) of the controlled transaction. The identification of the “actual conditions” requires an examination of the transactions or series of transactions between the taxpayer and the non-arm’s length person to identify the conditions that actually govern the transaction. The conditions of the transaction (and series) would be identified by examining their “economically relevant characteristics” (also a new defined term) which includes a consideration of the:

  • contractual terms to the extent consistent with actual conduct;
  • actual conduct of the parties; functions they perform (and they contribute to value creation as a whole); assets used and risks assumed by the parties, and surrounding circumstances and industry practices;
  • economic circumstances;
  • characteristics of the property or services; and
  • business strategies of the parties.

The actual conduct of the parties to the transaction trumps the contractual language that they use in documenting the transaction. This step ensures that pricing reflects the true commercial and financial relationship between the parties.

Step 2: determine the arm’s-length conditions

The second step in the new paragraph 247(2)(b) requires the identification of the “arm’s length conditions” (a new defined term) of the transaction or series that would have been the conditions had the parties been dealing at arm’s length. The identification of those conditions would also require the identification of the “economically relevant characteristics” of the transaction or series had the parties been dealing with each other at arm’s length (the characteristics may be the same or different than those characteristics identified in step 1 for the actual transaction or series).  The “arm’s length conditions”, after the identification of the “economically relevant characteristics”, would be arrived at with the assistance of the OECD Transfer Pricing Guidelines which would include, among other things, selecting the most reliable transfer pricing method and applying OECD-consistent comparability adjustments (if necessary) (see subsections 247(2.03) and (2.04)

The OECD Transfer Pricing Guidelines are now embedded directly into the transfer pricing rules and will therefore now aid and provide guidance to taxpayers, the CRA and the courts on how to apply the two-step process. Future updates to the OECD Transfer Pricing Guidelines can be adopted in the transfer pricing rules by regulation.

What is the status of the transfer pricing recharacterization rules?

Previously, Canada’s transfer pricing rules included a provision that permitted the recharacterization of a transaction if arm’s length parties would not have entered into the transaction, and there was no bona fide reason to enter into the transaction other than to obtain a tax benefit. In that case, the rules provided that the transaction would be replaced with a transaction that the arm’s length parties would have entered into.  The language of these rules provided little guidance on how they should be applied and were a source of friction between the CRA and taxpayers.

The new rules provide for the repeal of the recharacterization rules.  Originally the Consultation Report recommended their replacement with express rules.  The new rules do not follow that recommendation but do recognize that the parties’ transaction can be ignored and replaced with an alternative transaction as part of the second step in arriving at an arm’s length transaction.  However, the explanatory notes to the proposed changes provide that this should happen only in “exceptional circumstances” such as those described in the OECD Transfer Pricing Guidelines.

How have the transfer pricing documentation requirements changed?

Budget 2025 significantly expands contemporaneous documentation obligations. Taxpayers would now have to document:

  • the economically relevant characteristics of the transaction,
  • the relationship of the contract governing the transaction to the other contracts in the same series of transactions,
  • the “actual” conduct of the parties to the transaction, and
  • the data, transfer pricing methods, and analysis supporting pricing, and how the analysis complies with the OECD Guidelines.

Upon request, documentation would now have to be provided to the CRA within 30 days of their request, significantly faster than the current 3-month time frame. Budget 2025 also creates the foundation for the government to reduce a taxpayer’s documentation requirements by prescribing conditions where they can follow a simplified process.

What is the new transfer pricing penalty threshold?

The minimum monetary threshold has been increased for when a transfer pricing penalty applies where a taxpayer has not made reasonable efforts to determine its transfer pricing.  The threshold has increased from $5 million to $10 million, the first adjustment since 1997. Although penalties may arise less frequently, contemporaneous documentation standards (discussed above) would be significantly higher and more rigorous.

What should taxpayers do now?

Taxpayers should:

  • review existing structures to determine whether the “actual” conditions of the transaction are the same as the “arm’s length conditions” that would have been entered into by arm’s length parties;
  • assess the commercial rationality of their transactions using the guidance in the OECD Transfer Pricing Guidelines;
  • ensure the obligations described in the contracts governing the transaction coincide with the actual conduct of the parties;
  • update their documentation to include the additional information required under the new rules for contemporaneous documentation; and
  • prepare for increased audit activity.

Our Corporate Tax group is available to discuss the structure, compliance issues, and strategic implications of the changes to Canada’s transfer pricing regime and their impact on your business.