Businesses that employ tipped workers must follow specific tax rules to ensure proper reporting and withholding. Here’s what employers need to know about handling employee tips.
Employee Tip Reporting
Employees who receive $20 or more in tips per month must report the total amount to their employer by the 10th of the following month. Tips include:
Cash received directly from customers.
Tips shared among employees.
Tips added to credit or debit card payments and later distributed.
Tips under $20 per month don’t require reporting to the employer but must still be included as income on the employee's tax return.
Service Charges vs. Tips
Certain automatic charges added to customer bills, like large party fees at restaurants or room service fees at hotels, are considered service charges, not tips. These payments are treated as regular wages and are subject to tax withholding.
Employer Responsibilities
When employees report their tips, employers must:
Withhold Social Security, Medicare, and income taxes.
Pay their share of Social Security and Medicare taxes.
Report all wages and tips on Form W-2.
If there are not enough wages to cover tax withholdings, the employer should adjust future paychecks or report uncollected taxes on employment tax returns.
Allocated Tips for Large Businesses
Restaurants and bars with more than 10 employees may need to allocate tips if reported amounts fall below 8% of gross receipts. Employers must distribute the difference among employees and report the allocated amounts on their W-2 forms.
Tip Compliance Programs
The IRS offers voluntary tip reporting agreements to help businesses and employees accurately report tip income. These programs can simplify tax compliance and reduce the risk of audits.
By following these guidelines, employers can ensure proper tax reporting and compliance with federal regulations.