Very helpful Kelly! This does seem to be happening more often during the current economic situation.
Accounting for Barter Transactions
The difficult economic climate of recent years has led more businesses to utilize barter transactions. Accounting for bartering transactions is required by the IRS and is essential to accurately determining the financial health of your business.
The difficult economic climate of recent years has led more businesses to utilize barter transactions, in which they trade their products and services for other products and services. Many businesses wrongly assume they don't need to account for these transactions. Accounting for bartering transactions is required by the IRS and is essential to accurately determining the financial health of your business.
When you barter for other goods and services, you are still investing time and resources to sell the item you are trading. You are simply receiving a commodity other than cash in exchange for your product or service. Not accounting for barter transactions is equivalent to not accounting for revenue and expenses. It's impossible to determine how well your business is doing if you can't generate accurate financial statements.
Recording these transactions is quite simple if you break them down into individual pieces. When you barter, two transactions occur: 1) you sell something and 2) you buy something. The most confusing factor can be determining the value of the transaction. IRS guidelines dictate that you must value the transaction at the fair market value of the item you are receiving. In most cases, the fair market value is already known—it's the normal sale price of the item. The sale of your goods or services is valued at the purchase price of the goods you are receiving.
Of course, you also have to record the receipt of the item. If the item you are receiving is a valid business expense, you will record it just as you would if you had paid cash. Instead of cash, you paid with your goods or services. If the item you are receiving is for your personal use, you need to record it as if you took cash out of your business (draw, payroll advance, etc). Let’s look at an example to see how it works in practice:
A designer is trading his website design services for two months of free rent. His rent is normally $800/month. The designer would record the transaction at $1,600, the value of two months’ rent. Since the rent is a business expense, he would debit "Rent Expense" and credit "Income" for $1,600.
Barter exchanges are also becoming more common. When you trade via a barter exchange, you trade for "points" through a third-party organization. You can accumulate points by selling your goods and services to other members of the organization and apply those points when you find something you want to buy.
If you trade with a barter exchange service, it's important to understand that barter income is cash basis. When someone "buys” your services with trade credits or points, you have generated reportable income. The fact that you haven't spent your trade credit is not relevant. When you do spend your trade credit, you record the expense just as you would with a direct trade (normal business expense or personal draw).
The easiest way to account for barter exchanges is to set up a “bank” account on your books called "Barter Exchanges". When you sell something through an exchange, make a deposit into the “Barter Exchanges” bank account, crediting “Income”. When you purchase something from the exchange, you can simply "write a check", debiting the appropriate expense account. Using this method, you have a complete record of all transactions running through your barter account and you've properly recorded your income and expense. You can also make reconciling your barter account a part of your normal monthly close process.
Properly accounting for both types of barter transactions is essential to accurately representing your revenue and expenses. When recording direct barter transactions, you are essentially recording a sale and a purchase. Instead of recording two transactions—one in which you sold something for cash and one in which you purchased something with cash—you record one transaction and skip the cash. Barter exchange transactions are similar to cash transactions; you just need a barter bank account to record them. Remember to keep a paper trail in either case and note it as a barter. For more information, see the IRS document “Record Keeping for Barter Transactions”.
Learn more about the author, Kelly Totten.
Comment on this article
Posted by W.M. (Wendy) Gillihan, CPB,..., Seattle, Washington |
Apr 18, 2010
Posted by Leif Espelund, Seattle, Washington |
Apr 19, 2010
Kelly, this is a great, concise explanation of accounting for barter transactions. I actually do marketing work for a local B2B barter company called BizXchange. They have a pretty good page of resources about barter and taxes, including more IRS links: http://www.bizx.com/how5_taxes.html
Posted by Kelly Totten, Portland, Oregon |
Apr 19, 2010
Thanks Wendy & Leif. I'll definitely check out BizXchange.
Posted by Alan Alabastro, Redmond, Washington |
Aug 19, 2010
Thanks Kelly. I better talk with my book keeper and start to keep track of these.