It’s time to do an analysis of your tip reporting status. The filing of form 8027 for tipping establishments is calculated on an annual basis and reported to the IRS in February. A mid-year tip check gives you some time to correct any issues you may have with individual employees or your employee group as a whole.
IRS Guidelines
As per IRS guidelines, restaurant employees are required to report their tip income on a daily basis. All employees, including directly tipped (servers) and indirectly tipped (bussers, runners, hosts) are required to claim the amount of money they have received in both cash and credit card tips. Most restaurants have their point of sales system set up to allow employees to claim their tips at the end of each shift. This information needs to be incorporated into their payroll as tips with the applicable payroll taxes applied. In general, the calculation the IRS uses to audit this activity is based on the average credit card tips received.
This information is readily available to government agencies, so they pretty much already have it. Using the average credit card tip as a basis, the IRS can calculate the estimated tips received for directly tipped employees. If all servers are within the average, adding all the claimed tips from the direct and indirect tipped employees should equal the total tipping average.
Recording Tips
Directly tipped employees are only responsible to declare the amount in tips they have after they have tipped out. They must, however, keep a record of their tip-out to indirectly tipped employees. The IRS provides a booklet (Form 4070A) for employees to record these transactions. More information on Pub. 1244 is available at https://www.irs.gov/forms-pubs/about-publication-1244. Pub. 1244 includes a 1-year supply of Form 4070A. All cash and non-cash tips an employee receives are considered income and are subject to Federal income taxes. Cash tips include tips received from customers, charged tips (e.g., credit and debit card charges) distributed to the employee by his or her employer, and tips received from other employees under any tip-sharing arrangement.
Service Charges
Service charges are not considered tips and should not be reported as such. Charges added to a customer’s check, such as for large parties, by the employer and distributed to employees should not be added to your tip record. These additional charges the employer adds to a customer’s bill do not constitute tips, they are service charges. These distributed payments are non-tip wages and are subject to social security tax, Medicare tax, and federal income tax withholding.
Liability
The liability for not reporting the correct amount of tips is theoretically shared between the owner and the tipped employees. In most cases, the IRS will go after the employer portion of the unpaid payroll taxes on tips that are not declared, it is easier to collect from the employer than to chase down the employees.
Many employers and employees still talk about the 8% rule, which has not been applicable for many years. The calculation of the tipping percentage comes from your credit card transactions and that is the percentage the IRS will use in their calculations.
Calculating Tips
Do a quick calculation from your payroll registers of the total amount of tips declared at mid-year as it relates to your total sales. Look at what your credit card tips are in relation to total credit card sales to calculate your tipping percentage. If you are using a business intelligence platform (C-tuit, Avero, Restaurant 365) or a tipping software (Gratuity Solutions, Grat Rack, Grat Share) this information is easy for you to acquire. Employees that are not declaring the correct amount of tips should be counseled and your manual should designate that this is required and considered part of their responsibilities as an employee.
We can help you review your tip percentages, employee practices, and employee manual language regarding tips. Please contact us for more information.
About the Author
Jean Hagan, Principal
Restaurant, Hospitality
Jean has owned, operated, and consulted in the restaurant industry for more than 30 years. During that time, she worked with a well-known national chain; owned a food and beverage company that operated multiple restaurants, bars, and event spaces in the Squaw Valley area; and became the president, CEO, CFO, and shareholder of one of the highest-grossing restaurants in California. Today, Jean is Principal and leads the Restaurant Operations Consulting practice at KROST. » Full Bio