High water content remains a critical issue limiting the use of wood-derived fast pyrolysis oil (FPO), also called bio-oil or pyrolysis liquid biofuel, in mid-size diesel engines for power generation. In this research, FPO water content was reduced by 60% through distillation (DFPO) and by more than 85% by phase separation (PSFPO). Water removal significantly reduced its corrosivity, improved the fuel heating value, and resulted in greater storage stability. Diesel engine injector components immersed in FPO lost from 2.5 to 6% of mass in 84 h. From the different metals tested, tool steel corroded 300 times faster than the allowable limit, whereas stainless steel displayed no corrosion. These rates were reduced by a factor of 3 when water was removed by either distillation or phase separation. Although phase-separated FPO contains 50% less water than distilled FPO, it displayed similar corrosivity. X-ray photoelectron spectroscopy analysis of the corroded samples confirmed the chemical nature of corrosion, whereas the formation of a Cr2O3 layer on the stainless steel samples was found to be the main factor inhibiting corrosion. Conversely, water removal exacerbated the problem of high FPO viscosity by raising it 28 times to that of diesel fuel for DFPO, whereas for PSFPO, in addition to increasing viscosity, it also displayed shear thinning. This combined with fuel preheating limitations restricted the direct application of dewatered FPO in a diesel engine. Therefore, to be used in a diesel engine with minimal changes in its pumping system, dewatered FPO was emulsified with diesel and the maximum possible emulsion viscosity was set to not exceed 3 times that of a diesel fuel. This emulsification was carried out with aid of a surfactant, and from six different surfactants tested, only Atlox 4916 and Hypermer 1599 produced stable emulsions for FPO and DFPO, respectively. Moreover, water removal in large quantities was found to have a detrimental effect on the emulsification potential of FPO and all of the emulsions produced from PSFPO stratified by 20% only in a day and the resulting two-phase liquid was found difficult to be used without extensive mixing. Furthermore, thermogravimetric analysis of PSFPO indicated high leftover carbon residue of around 30%, indicating a very high tendency for coking. Consequently, only moderate quantities of water removal from FPO (similar to 60%) through distillation were found to be beneficial for broadening the scope of FPO application to electricity production utilizing diesel generators.