Key Takeaways
1. Payments-in-kind are made without cash or cash equivalents.
2. Employees can be paid in cash for part of their wages.
3. Companies may create payment-in-kind loans to receive cash and make repayments in equity or securities.
4. PIKs add increased flexibility to payments.
Payments in Kind (also known as Payments-in-Kind or PIK) are non-cash payments. Here we explain where PIK can be used and the appropriate tax treatment for these payments.
What is Payment In Kind?
A payment-in-kind or PIK is a payment made with products, services, or financial tools instead of cash and cash equivalents. These payments can be made by a company, for example, to its creditors or employees or to a company from its clients or other businesses.
PIK also refers to a type of financial instrument that a company can use as an alternative to cash-based instruments. A PIK security is normally set up so that investors buy shares in a company but don’t receive dividends in cash. Instead, they’re paid dividends in additional shares or securities so that the company can avoid paying in cash.
When employees are paid in kind, they receive benefits, products, or services from their employers as a part of their pay. This is often the case in traditional jobs such as a farm hand who receives room and board in place of (some) cash payment. These PIK payments typically represent just a small part of the employee’s wages and are limited by legal statutes in most areas. In most cases, an employee needs to be paid a salary compliant with minimum wage legislation in cash/cash equivalents.
Advantages of Payment In Kind
Many businesses turn to making payments in-kind for the advantages they provide. Receiving PIKs can also be beneficial for many businesses, especially those that don’t have any particular need for cash.
Advantages for businesses can include:
Making Payment In Kind
Using available resources
Companies that can pay their employees in kind, at least for part of their wages, can take advantage of their economy of scale. They can buy products in bulk at wholesale prices and pass them on to their employees for retail value, thus saving money.
Delayed repayment
Companies that offer PIK loans receive cash they can use immediately but pay these loans back in equity or securities. This can help a business restructure its debts and avoid insolvency.
Receiving Payment In Kind
Efficient acquisition
Businesses that need certain raw materials, products, or services may save time and money by receiving these items as payments-in-kind. For example, a can manufacturer that’s paid by a client in aluminum could save on acquisition and transportation costs.
Value perception
In some cases, individuals actually prefer payment in kind to a traditional payment. For example, in the previously mentioned case of a farm hand, it can be beneficial for the employee not to have to source their own accommodation in a rural/under-populated area.
Disadvantages of Payment In Kind
There are, however, drawbacks and challenges to a PIK system. These include:
Continual debt
While offering PIK loans can get companies out of hot water in the short term, they can be encouraged to continually defer repayment and keep companies in debt.
High interest
Most investors want cash, so when loans are repaid in kind, they usually have higher interest rates, meaning companies have to pay more back.
Difficult valuation
In-kind payments can be difficult to assess. The value of a payment estimated by a company may not equal the valuation by a tax official and could land the company in hot water.
Comparing Payment In Kind to Traditional Payment Methods
The main difference between a PIK and a traditional payment is that a PIK is not in cash or cash equivalents. Instead, it’s made in services (or coupons for service), real products, or equity.
Some companies have long cash cycles or immediate debts to pay. To increase their liquidity, companies can offer PIK loans, creating securities, guarantees, or promises of service that will be paid in the future in exchange for cash now. This allows companies to gain cash for their immediate needs, even if they have to offer high interest rates on these PIK loans.
Employees may prefer to receive PIKs when the products or services on offer are difficult to find or access. For example, at a remote workstation, there may be no other accommodation on offer aside from that offered by the employer in lieu of some cash payment. The employee may also be able to get more value from PIK than using cash.
If they work for a food producer, for example, they may receive food at a below-market rate in lieu of cash, making this kind of PIK beneficial for both parties. However, most of the time it’s preferable for wages to be received in cash, which has no restrictions.
Negotiating Payment In Kind
Companies can receive payments-in-kind from their clients or suppliers. They can create PIK loans to generate cash and repay them in securities or equity. They can also, in some jurisdictions, pay employees in kind rather than in cash for part of their wages.
In these ways, PIK adds flexibility but also complexity to payment money management.
Because of the potential tax and labor law implications, it is important to reach out for professional advice before offering employees payment in kind.
Frequently asked questions
Payment-in-kind is still a payment. The IRS views this as a barter payment, and barter payments must be recorded as income on a company’s tax return.
The value of a PIK payment may be difficult to measure but is normally assessed as the average current market value of the goods or services received. For example, if a painter receives a free car wash for painting work he does, he should report the value of the car wash or his normal fee as income.
Some countries and states allow employers to provide payment-in-kind as partial payments of employees’ wages. These different jurisdictions limit the percentage of wages that can paid in kind and also dictate the types of payments that can be used.
These are usually meals and accommodation or other essentials that produce a “clear benefit to employees as consumers”.
However, PIK products cannot cost more than what they took the employer to produce, so profit margins must be deducted from their retail prices to arrive at true value. In some but not all jurisdictions, employees must agree to receive PIK.
These payments may only occur in select industries where they are traditional, and in many cases they cannot reduce the employee’s cash payments to less than minimum wage.
