Many people use this as an excuse why they didn't pay tax on something
they received. It is a little like the "it was a gift, not a campaign contribution" defense being mounted by John Edwards.
A gift isn't taxable to the recipient, and any gift tax must be paid by the
donor. It sounds like a slick argument, but does it work? Unfortunately,
most such claims fail.
Income is taxable whether in cash or in kind. If you receive it in kind, its
fair market value is taxed. Examples include that cash bonus from your
boss at year-end, the fancy briefcase your employer gave you when you
were promoted, the free country club membership you got from a
grateful client, you name it.
All are income. In an employment setting you face employment taxes
too, creating withholding problems. Your employer must withhold extra
taxes from your cash pay to make up for the value of the property you
received in kind.

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