It’s time to do a short analysis of your status, regarding tip reporting. The annual filing form 8027 for tipping establishments is calculated on an annual basis-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 per IRS guidelines, restaurant employees are required to report their tip income daily. All employees both directly tipped (servers) and indirectly tipped (bussers, runners, hosts) are required to claim the amount of money 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 primarily based off the average credit card tips received. This information is readily available to government agencies, including the IRS. Using the average credit card tip as a basis, the IRS can then calculate what the estimated tips received are for the directly tipped employees. Assuming if all servers are within the average, adding the claimed tips from the direct and indirect tipped employees should equal the total tipping average.
Directly tipped employees are only responsible to declare the amount of tips they receive after they have tipped out. Restaurants 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, they can be ordered thru the IRS Website, using the Employee’s Daily Record of Tips and Report to Employer form. Publication 1244 is available at irs.gov/pub1244. Publication 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 income taxes. All cash tips received by an employee in any calendar month are subject to social security and Medicare taxes and must be reported to the employer, unless the tips received by the employee during a single calendar month total less than $20. 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.
Many employers and employees still like to talk about the 8% rule, this is not and has not been applicable for many years, the calculation of the tipping percentage comes from your credit card transactions and that is the tip percentage the IRS will use to calculate.
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.
The liability for not reporting the correct amount of tips theoretically is shared between the owner and the tipped employees. The reality is that the IRS goes after the employer portion of the unpaid payroll taxes on tips that are not declared, , because it is easier to collect from the employer than to chase down the employees.
Our advice is to 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, your employee handbook should designate this requirement and it should be considered part of their responsibilities as an employee.
About the Author
Jean Hagan, Principal
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