This practice exists in today’s business environment, as the U.S. Department of Commerce estimates bartering accounts for 30 percent of the world’s total business transactions. Bartering may be an informal agreement between individuals and businesses, or it can take place on a third-party basis through a modern barter exchange company. For example, a carpenter may install shelves and floors for a lawyer in exchange for legal services, or a baker might exchange his baked goods with a landscaper for lawn care maintenance.
Some individuals and small businesses believe bartering avoids taxable income because there is no exchange of money; however, Uncle Sam wants you to include the fair market value of goods and services you exchanged as part of your income. That’s right. Exchanges conducted by bartering are considered taxable income by the IRS. Generally, you report this type of business income on Form 1040, Schedule C Profit or Loss from Business, or other business returns such as Form 1065 for Partnerships, Form 1120 for Corporations or Form 1120-S for Small Business Corporations.
Tax reporting through barter exchanges is a little different. Barter exchanges are national or international third-party companies that allow members to exchange products or services with other members in return for credit to their account based on the fair market value of the sale. These clubs generally use their own unit of exchange known as “credit units” or “trade dollars.” These credit units can be redeemed for goods and services from other members. The barter exchange acts as the bookkeeper, keeping track of the value of the exchanges for reporting purposes.
These exchanges report the value of cash, property, services and credits members received from exchanges during the previous year to the IRS. The exchange also prepares IRS Form 1099-B, Proceeds from Broker and Barter Exchange Transactions, which are sent to the IRS and to their members by Jan. 31 of each year. Members are taxed on the value of their credit units at the time they are added to the member’s account, even if the credits are not redeemed for goods or services until a later year.
Many business owners find bartering to be a creative way to save money. For a start-up company, bartering can help build a reputation while preserving the company’s cash flow. When entering into a barter agreement, both parties should agree to the value of the services or goods in advance. You should also know your potential business partners, as bartering can help establish good relationships with suppliers, vendors and referral sources. Just remember, even though money is not being exchanged, your business reputation is still on the line.
William G. Lako, Jr., CFP®, is an Executive in Residence at Kennesaw State University’s Coles College of Business and a principal at Henssler Financial. Mr. Lako is a CERTIFIED FINANCIAL PLANNER™ professional.