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We have a farm in the US, with an employee paid with wheat rather than money. He is an ordinary employee that receives a W2. My accountant said that we don't have to withhold income tax or pay either employee or employer portions of FICA tax on his income, because it is "payment in kind".

Its hard to say why this sounds iffy, but in my experience with taxes, usually something that creates an obvious loophole is not correctly understood. For example, I could just operate the farm as a corporation, make myself an employee, take all profit as "payment in kind", and not pay self employment tax. Obvious loophole = I think my accountant is wrong about this.

Is my accountant wrong about "payment in kind" not being subject to payroll tax?

If not, is she partially correct in any way, in that, are there any changes to payroll tax requirements relating to "payment in kind", which might explain her position?

Would the situation be different if he was also paid in cash, like 50% cash reimbursement and 50% wheat reimbursement?

Please state the experience you have that justifies your answer. Thanks.

Dheer
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Kyle
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4 Answers4

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The CPA is mostly correct. Her use of "in kind" may be confusing, but it appears that while our gut would call this "bartering" and refer to the rules regarding same, there's a different set of rules that apply to farm workers.

The following appears in IRS Pub 51 Agricultural Employer's Tax Guide -

Noncash wages (including commodity wages). Noncash wages include food, lodging, clothing, transportation passes, farm products, or other goods or commodities. Noncash wages paid to farmworkers, including commodity wages, aren't subject to social security taxes, Medicare taxes, or federal income tax withholding. However, you and your employee can agree to have federal income tax withheld on noncash wages.

You can see, Social Security, for those paid 100% in non-cash wages, is avoided, legally, but federal tax is still due.

JTP - Apologise to Monica
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    How do you withhold from an in-kind payment? Suppose employee is to be compensated with 1,000 bushels of wheat, market value $4,000, and you would normally withhold 8%. Do you have to give him only 920 bushels and sell the remaining 80 bushels and send the cash to the IRS? – Nate Eldredge Jan 16 '17 at 20:03
  • Also, issues like transportation costs might mean that the actual market value of 1,000 bushels of wheat in, say, Williston ND, on a particular date, may be quite different than what it's trading for on a commodity exchange. – Nate Eldredge Jan 16 '17 at 20:09
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    I wonder how you handle this with a payment that can't be split up in this way. What if I am going to compensate somebody with a car worth $4,000? I can't sell 8% of the car to send to the IRS. – Nate Eldredge Jan 16 '17 at 20:10
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    Me? I'd simply 1099 them. A one time car can't really justify a W2 employee, can it? – JTP - Apologise to Monica Jan 16 '17 at 20:11
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    Thanks, I just needed some confirmation on that suspicion. I looked up barter transactions as you suggested, and this link gives a definitive statement on the issue, for anyone interested. In particular, item 2 requires a barter for goods or services to be treated like a monetary transaction for income purposes. Four Things to Know About Bartering – Kyle Jan 16 '17 at 21:07
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    @NateEldredge If Williston ND is a commercial wheat-producing area (which it is, according to Wikipedia), there will almost certainly be a local grain marketing and transportation company which publishes price records. (Somebody has to own and operate the storage silos and elevators to load the stuff onto freight trains or a fleet of trucks, for example.) If the OP was farming and growing a tiny amount of wheat just in order to pay one employee in wheat rather than dollars, that would be really bizarre. – alephzero Jan 16 '17 at 22:17
  • A fortiori, in the USA social security payments at retirement depend on a record of employment. If no FICA gets paid for the worker or from the worker's wages, he'll have no record of employment for the time period in question, with the social security administration. So, not withholding now will prove really tough for the worker many years down the road. – O. Jones Jan 17 '17 at 12:49
  • @NateEldredge I imagine it isn't all that dissimilar to raffle prizes or similar. Say you won a car in a raffle. $20000 cash value. You have to pay 25% of that value back to the folks giving you the car which they then submit to the IRS as withholding. – Joe Jan 17 '17 at 21:19
  • The IRS page on barter seems to imply no withholding, but it also acts as if it's 1099 not W2 income. Not sure if there's a place for if it's considered W2 income... – Joe Jan 17 '17 at 21:49
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    There is apparently on search a concept of "commodity wages" in IRS farm rules separate from general barter exchanges. The CPA might not be wrong. – user662852 Jan 18 '17 at 00:30
  • @NateEldredge: two possibilites: a) employee receives a benefit of $4000 in kind, and the appropriate 8 % ($320) withholding are deducted from the money-part of their wage (and instead paid to the tax office). b) employee receives a benefit of $4387.83, of which 92 % ($4000) are paid out as wheat or car and 8 % ($347.83) are paid out as withheld taxes (= money). – cbeleites unhappy with SX Aug 14 '19 at 09:14
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Conceptually, you should think of it like this: You issue your employee a paycheck, and your employee then turns around and purchases the amount of wheat from you which equals the entire net amount of the paycheck. You in turn report the amount you sold the wheat for as income. If you do this (and perhaps you should), then your payment to the employee is partially offset by the income you received (minus employee paid taxes), and you are out the wheat. Simply skipping the step of printing the check does not relieve you or your employee of any tax liability.

If you choose to sell wheat to your employee at a discount, that's fine, so you can effectively lower the tax burden for both of you by doing this, however, the price you charge must be considered reasonable with the discount (note the IRS uses the term "fair market value"). You cannot lower the price down to zero.

TTT
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    Your last paragraph needs clarification. Lowering the price of a commodity given as salary would either be tax fraud (i.e. lying about the price) or slavery (i.e. a worker is not being paid for work done), pick your poison. There is nothing forbidding giving away goods for free, but in the context of the question the above applies. – Mindwin Remember Monica Jan 17 '17 at 10:54
  • @Mindwin - If the farmer paid the worker money and the worker purchased the entire pay's worth of wheat, the price would be agreed upon and it would be reasonable to provide a discount for your employees. A discount means more wheat for the employee. In this case, the quantity of wheat is already predetermined but the price may not have been, so a price needs to be established in order to figure wages and taxes. I am simply suggesting that when reverse calculating the price, it is reasonable to price the wheat at a discount, as long as it still fits within the bounds of "fair market value". – TTT Jan 17 '17 at 16:06
  • @Mindwin: "There is nothing forbidding giving away goods for free" at least in Germany, wage tax law takes decidedly the view that while you can give it away for "free", it may still be taxable wage (and is then also subject to social security fees). That is, goodies (= something not usually sold by the employer) received in kind are considered taxable wages (except below 44 € per calendar month). When selling goods that the employer usually sells (here the wheat), the first 1080 €/year are free and the official value is 96 % of the usual sales price of the employer. – cbeleites unhappy with SX Aug 14 '19 at 09:32
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Farm income is a separate beast under Schedule F. There may be a basis for the CPA'S assertion in regards to a farm-income concept of "commodity wages" though I don't have the expertise to parse "if the substance of the transaction is a cash payment" in the quote from pub 225 below:

IRS Pub. 225

Noncash wages (including commodity wages).    Noncash wages include food, lodging, clothing, transportation passes, and other goods and services. Noncash wages paid to farmworkers, including commodity wages, aren't subject to social security and Medicare taxes. However, they are subject to these taxes if the substance of the transaction is a cash payment. For information on lodging provided as a condition of employment, see Pub. 15-B.

Report the value of noncash wages in box 1 of Form W-2 together with cash wages. Don't show noncash wages in box 3 or in box 5, (unless the substance of the transaction is a cash payment).

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user662852
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It's not a payment "in kind". Payment "in kind" refers to barter transactions where similar kinds of items are exchanged (prepared food for prepared food at a dinner party, for example). Exchanging labor for a commodity is not a payment in kind. And, therefore, it is not a type of barter which is exempt from taxation. The good news is that, unless you sell all the wheat, you can declare its value as if you purchased it at a wholesale price (which may reduce the amount of tax that you owe).

grovkin
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  • Thanks, I was wondering where the "payment in kind" phrase was coming from. Apparently it is incorrectly used, but I knew it must come from somewhere. – Kyle Jan 17 '17 at 19:11
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    "unless you sell all the wheat" - does that imply that if you sell it all, you might have sold the amount given to the worker at a higher price, and therefore the higher price should be used in the calculation? – TTT Jan 17 '17 at 20:43
  • Even if it was in-kind (which doesn't require exchange of similar goods. It is just an exchange of non-monetary goods.) It would still be consider income and the tax must be paid on the value of the goods at the time of the exchange. – Matthew Whited Jan 17 '17 at 22:33
  • @Matthew Whited, "barter" is an exchange of non-monetary goods. Barter of goods or services of the same kind doesn't have to be reported. If it did, then all interactions between people would have to be reported as long as someone somewhere charges for the same type of interaction. For example, tutoring in math in exchange for tutoring in history? Both have individuals would have to report it as an income. In the same manner, exchanging apples for frozen meat would have to be reported as income by both sides. But at what price? – grovkin Jan 18 '17 at 21:25
  • in-kind covers barter. And all interactions where a profit is made are supposed to be reported... we just don't – Matthew Whited Jan 18 '17 at 21:27
  • @TTT, if you sell the wheat, then you either have to report the sale price (and possibly deduct expenses involved in the sale) as income; or you would report the income as receiving commodity (at the traded-commodity price) and then you would have to report the difference between the sale price and traded-commodity price as capital gain or as business income. Whether this difference would be business income or capital gain would probably depend on method of delivery, packaging, other costs, etc. (this is really a question for a CPA at that point). – grovkin Jan 18 '17 at 21:38
  • @Matthew Whited, in-kind does not cover barter. Some in-kind transactions are barter and some barter transactions are in-kind. But neither of the words some can be substituted for all. Sorry, to take it this far, but you can get into pretty absurd territory if all in-kind transactions had to be reported. As another example, all sex within jurisdictions where prostitution is legal would have to be reported as barter (assuming no cash was exchanged). – grovkin Jan 18 '17 at 21:45
  • It covers all in-kind. We don't report them because yes it would be stupid. But yes, legally if you make a profit for selling crap in your front yard you are supposed to report those profits on your taxes. Just as if you trade a taco for a beer techically if you profit from the exchange you are supposed to report it as income when you file your taxes. – Matthew Whited Jan 18 '17 at 21:54
  • @grovkin - I think either you didn't understand my question or I didn't understand your response. I was most intrigued by your use of the word "all" in your statement "unless you sell all the wheat". I took that to mean if you sold "some" of the wheat, you can declare the wholesale price, but if you sell "all" of the wheat, you can't. – TTT Jan 18 '17 at 21:58
  • @TTT, oh, that was just lack of precision with the language on my part. I meant that whatever wheat was sold would have to be treated differently from the wheat which was not. – grovkin Jan 18 '17 at 22:23
  • @grovkin - ok. Thx for clarifying. – TTT Jan 18 '17 at 22:33