The Taxation Of Bartering
James Harvey Stout (deceased). This material is now in the public
domain. The complete collection of Mr. Stout's writing is now at
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are many things to consider in the taxation of bartering in the
barter deals are tax-free or tax-deferred.
IRS knows that some "barter income" is not
When I wrote this material in 1982, for the first edition
of the book, the chapter contained 19 pages of detailed information.
Since that time, the tax laws have changed considerably. Instead of
rewriting the chapter with that same amount of detail, I am
presenting only the basic concepts, because:
- Tax laws will continue to change, such that any details in
this book would become obsolete very soon. (The quotes from IRS
manuals are from the early 1980s.)
- Tax advice should be given on an individual basis,
depending upon our particular circumstances.
- This book is being distributed on the internet, to an
international audience, so the information would not apply to the
non-US readers anyway.
are many things to consider in the taxation of bartering in the
- Both parties must pay taxes in a one-to-one barter deal, e.g.,
when an electrician swaps services with a house-painter. An IRS
manual says: "The non-cash transactions give rise to taxable
income for both parties of the exchange, regardless of whether the
exchange is made directly or through a bartering club."
- Fair market value. The concept of "fair market value" is
widely used when barter transactions are being taxed. The IRS
says: "Fair market value is defined as the price at which the
property would change hands between a willing buyer and a willing
seller, neither being under any compulsion to buy or sell, and
both having reasonable knowledge of the relevant facts. Fair
market value may not be determined by a forced sale price, nor by
the sale price of the item in a market other than that in which
that item is most commonly sold to the public, taking into account
the location of the item wherever appropriate. Thus, in the case
of an item that is generally sold at retail, the fair market value
is the price at which the item or a comparable item would be
sold." We can consider these other details:
- In trades between private parties, we can refer to general
standards of value. For example, if we are trading a car, the
fair market value might be the Blue Book price.
- We must consider the retail value, not the wholesale value.
The IRS gives an example: "An automobile generally is retailed
so its fair market value would be its retail value. The price a
used car dealer would pay may not be used. If tangible personal
property is sold as the result of an advertisement in the
classified section of a newspaper, and the property is of a
type often sold by such means, or the property is sold at a
public auction, the selling price will be presumed to be the
retail sales price of the item at the time of the sale."
- We have some leeway in determining this fair market value.
For example, one typist might be charging $2 per page, while
another is charging $3 per page. For tax purposes, we can
consider the lower price to be the fair market value.
- A barter-club unit is generally valued at $1 each, for tax
purposes (according to the IRS in January, 1980). However, a unit
is really just a unit of accounting; in some cases, it is not
worth $1 -- particularly if the club is experiencing inflation
(such that 1000 units might be able to buy only $700 worth of
goods or services), or if the club has decided to create units
which are worth a different amount, e.g., 25 cents each. An IRS
"Tax Law Observation" acknowledges the discrepancy: "There may be
a problem valuing the 'credits.' Rarely will they be worth face
value measured by what they can be sold for between a willing
buyer and a willing seller."
- Barter clubs have various policies regarding the tax
commitments of their members:
- The clubs might give general advice on the subject. But,
for detailed consultations, members would have to talk to an
accountant or another expert. (These experts might be members
of the club, so they could be paid with barter-club units.)
- The clubs might encourage members to report their
barter-income, but they do not compel them to do so. The matter
is between the taxpayers and the IRS; the clubs generally do
not get involved. (One barter-club president said bluntly, "I
don't want to know.")
- Barter-club units can be counted for tax deductions. For
example, if a carpenter "pays" his $200 medical bill by building
cabinets in the doctor's office, then each may claim a deduction;
the carpenter calls it a medical expense, and the doctor calls it
maintenance of the business property. IRS ruling 80-52 said this:
"If a commission paid to the barter club by a member purchaser was
paid to acquire an item for use in connection with the member
purchaser's trade or business, the amount of the commission is
deductible as a business expense under Section 162 of the Code,
provided the item received in the barter transaction meets the
requirements of that section. If the commission was paid to
acquire a capital item, the amount of the commission must be
capitalized pursuant to section 269. If the commission was paid to
acquire an item for personal purposes, the amount of the
commission is not deductible, pursuant to section 262." Other
deductions might include our barter-club expenses (e.g.,
membership fees, annual dues, transaction fees, etc.), and
donations to a non-profit organization (e.g., a donation of
barter-club units, or of items which we acquired by
barter deals are tax-free or tax-deferred.
- Gift exchanges. In a gift exchange, I am giving you (for
example) a bracelet because you are my friend, and you are giving
me your lawnmower as a kind gesture. The difference between a gift
and a barter deal is the intent: when we give a gift, we do
not intend to receive anything directly in return -- but in a
barter deal, our supposed "gift" is actually half of a commercial
transaction. The Supreme Court has defined the word: "A gift in
the statutory sense proceeds from a detached and disinterested
generosity out of affection, respect, admiration, charity, or like
impulses." Tom Glynn, assistant to the IRS Commissioner in
Washington, has said that the IRS doesn't tax "neighbors doing
favors for each other"; he said that he would not expect us to
report a favor in which we tend our friend's lawn and he paints
our house in exchange. However, we need to be careful even with
these neighborly swaps. Where do we draw the line? If we can trade
a handful of lettuce as a gift without having to pay taxes, what
about a bucket-full of lettuce, or 10 bushels of lettuce? In at
least one case, the issue of "gift exchanges" has gone to the
Supreme Court; in The Commissioner of Internal Revenue vs.
Duberstein in the 1950s, a certain Duberstein failed to
convince the Court that his exchanges were indeed gifts. After he
gave his friend Berman some valuable business advice, Berman
reciprocated with a gift of a Cadillac. Duberstein had not
expected or requested the car, so he considered it to be a
tax-free present, and therefore he did not report it on his 1951
tax forms. But the Court expressed a different view, saying that
"despite the characterization of the transfer of the Cadillac by
the parties and the absence of any obligation, even of a moral
nature to make it, it was, at bottom, a recompense for
Duberstein's past services, or an inducement for him to be of
further service in the future."
- Like-kind exchanges. The goods are "of a like kind"; for
example, we are trading real estate for real estate, or a tractor
for another tractor. The IRS explains these tax-free exchanges in
Section 1031 of the IRS Code: "No gain or loss shall be recognized
if property held for productive use in trade or business or for
investment (except stock or securities) is exchanged solely for
property of a like kind to be held either for productive use in
trade or business or investment." Some fine points:
- This is a tax-deferred exchange, not a tax-free exchange.
There is no tax on the item when we acquire it by bartering --
but if we ever sell it for cash, we will pay a tax.
- We cannot create a tax-deferred exchange of personal
property for property which is to be used for trade, business,
or investment. "Like kind" refers to the way in which the
property is used, not the type of property itself.
- The IRS makes many distinctions in like-kind exchanges. For
example, the IRS differentiates between Krugerrands and
numismatic gold coins (like an old $20 gold piece).
The IRS knows that some "barter
income" is not reported. Regional IRS Director Roland Wise said,
"Bartering is certainly legal. It is the oldest way of doing business
there is. Our concern is that barterers don't abuse, misuse, or break
the law, and there is little doubt that bartering is a little more
conducive to that opportunity." (Los Angeles Times. July 8,
1979.) The IRS's involvement includes the following actions:
- IRS examiners look for indications that we barter. Examiners
have been instructed to look for deductions which are based on
payments to barter clubs or barter brokers; these deductions might
include membership fees, annual dues, service charges, etc.
- In 1982, the IRS examined a random sample of 1,800 members of
barter clubs. Three-quarters of the members had not reported any
of their barter income. The IRS collected an average of $1,600 in
additional taxes from each of those people.
- In 1980, the IRS was investigating 100 barter clubs, according
to Business Week.
- An IRS manual supplement (dated March 11, 1980) said, "...
each District Director was asked to identify organized bartering
exchanges in his/her district, and to secure the identities of
participants and details of their barter transactions. ... The
barter organizations should be asked for copies of the records of
member transactions. These should be checked against members'
returns (those which have been selected for examination under this
project) for verification for the reporting income. During the
initial interview, the member taxpayer should be asked the
specific question, 'Are you a member of a barter organization or
have you participated in any barter transactions?' The purpose of
this question is to determine whether the taxpayer is a member of
more than one barter organization or has participated in a direct
(outside of an organization) type of barter transaction. If the
response to this question is in the affirmative, copies of the
monthly statements of transactions received from the barter
exchange should be requested from the taxpayer. If the taxpayer
refuses, consider issuing a summons to the barter exchange under
the provisions of section 7 of this supplement." The U.S. District
Court of Maryland has said that the IRS has the right to examine
the list of members of a barter club.