Taxes: Can Barter Save You Taxes?

"What about barter?" goes the question. "Can I save taxes by bartering goods or services I have to offer?" That's a question being heard more and more frequently by tax specialists these days. The answer, at this point, is unclear.

Barter? It's undeniably an effective, widespread, even fun, alternative to the heavily taxed "money economy." It also undeniably plays a part in the explosive growth of the so-called subterranean economy: the unreported, untaxed, uncontrolled "countereconomy" now assuming huge proportions in America—often estimated to involve as much as 20 to 40 percent of the country's entire GNP, which translates to billions of dollars. So naturally the IRS is taking heed.

With the growth of underground barter has come a growing aboveground barter movement. Barter "exchanges" are springing up and advertising all over the country. At first, many people assumed that exchanging goods or services for those offered by someone else would be tax-free. After all, where is the "income" to be taxed? Where did any cash change hands?

Unfortunately, that position turned out to be somewhat optimistic. In February 1980 the IRS established a "Barter Exchange Project" in conjunction with its new "Unreported Income Program," which involved coordinating the Examination, Collection, and Criminal Investigation divisions of the agency. The purpose of the project was to flush out and audit people suspected of participating in organized barter exchanges, which were then being puffed as the answer to exploding taxation. IRS agents were instructed to question people during audits as to barter activity, and returns in selected taxpayer categories were scanned to see if barter club fees were being deducted.

Predictably, the IRS soon issued a revenue ruling that defined most bartered goods and services as income subject to taxes: the fair market value of whatever you receive, when you receive it, is asserted to be income to you (one exception: tax-free exchanges under Internal Revenue Code sections 1031 through 1040). The war was recently stepped up when the US Court of Appeals for the Third Circuit ruled that the IRS has the right to demand and get a list from a barter exchange of all the names, addresses, and barter transactions engaged in during a two-year period by the members of the exchange (that position, incidentally, is disputed by other federal courts outside the Third Circuit, which covers Delaware, New Jersey, Pennsylvania, and the Virgin Islands).

Clearly, for many people, formally organized, public barter clubs and exchanges are not the answer. On the other hand, for those who don't go about bartering on a publicly organized basis, such activity is virtually impossible to detect as long as it doesn't get too large and one remains discreet.

Karl Hess, who has had an IRS lien against his earnings for years and who has lived largely through barter for much of that time, is not discreet. In a number of magazine articles, he has waxed poetic over the virtues of barter: "Being part of a transaction of barter means that you are an equal person, fairly exchanging. It is flesh and blood, human, face to face."

How to try this terrific idea out yourself? Well, first you might want to peruse some of the flock of books on the subject, including Let's Try Barter, by Charles Wilson, and Barter: How to Get Almost Anything without Money, by Constance Stapleton and Phyllis Richman.

More important, one needs to "get in the state of mind" for barter. The secret lies in actually doing it. Which is the problem with many people: barter is certainly an eminently reasonable idea. It increases your cash flow, it's inflation proof, it frees up cash for alternative uses, it makes you feel good and can even build feelings of camaraderie and neighborliness. But most people never actually do anything about it.

The solution is to "get in the habit of asking." If you want to do barter, you should know what you have to trade—whether skills, services, or goods. Then, whenever you deal with anyone—particularly professionals, the self-employed, and tradesmen—make it a point to ask if they might be interested in trading for something you have to give. Can't hurt to ask, right? And I'll tell you right now: you're going to be astounded by the number of people from all areas of endeavor who positively leap at the idea.

Now, one little warning. As mentioned above, the IRS thinks that all such transactions involve taxable income. Right now the law is on their side, since they wrote the law with their revenue rulings. And although their theory has yet to be validated by the US Supreme Court, it could well be in the future. Thus, if you're not involved in an organized barter exchange, you're supposed to keep your own records and report all such activity on your income tax returns. On the other hand, if you're a member of an exchange, they'll be happy to keep such records for you…and for the IRS.

Timothy Condon is a member of the bar and a tax specialist with the Condon & Vollrath Tax Service in Tampa, Florida.