The growth and influx of breweries around Oregon has reached staggering heights. Receiving national recognition, the Oregon brewer culture and Oregon brewers are advancing all areas of the industry. There appears to be endless opportunity for this exciting market, however, understanding your numbers and making decisions based on your bottom line can improve your place in the pack. The following tips will help clarify the numbers and ensure you’re getting the biggest bang for your buck.
Tip Basics – What is a tip and how is it taxed?
It is important to understand the reporting requirements for every operating business within the food and beverage industry. If an employee regularly and routinely receives tips, directly or indirectly, for providing, delivering, or serving food or beverages for consumption of at least $20 in a calendar month, there is a reporting requirement. Cash tips can be received either directly or indirectly. Tips received directly include tips from customers (e.g. cash, debit and credit card charges); tips received indirectly include tips from other employees through any tip sharing arrangements. Both directly and indirectly tipped employees must report tips received in one or more written statements furnished to the employer on or before the 10th day of the following month, in which the IRS holds the employer responsible. Tips are considered wages subject to employer and employee withholding, including Social Security withholding of 6.2%, Medicare of 1.45% (for each of the employer and the employee) as well as income tax withholding for federal and state purposes.
Employer FICA Tip Credit – The tax benefits of proper reporting
To give employers an incentive to comply with their tip reporting requirements, Congress enacted IRC §45B in 1993 to provide a FICA tip credit equal to the amount of Social Security and Medicare taxes the employer paid on reported tips. (Note: if the hourly rate for the employee claiming the credit does not exceed $5.15 an hour and/or any tipped employee’s wages exceed the Social Security wage base for the calendar year, some additional calculations will need to be factored.) The FICA tip credit is determined by taking the total reported tips (included in all employees’ annual W2), then multiplying by the total employer paid portion of FICA taxes, totaling 7.65%. The outcome results in a reduction of federal payroll taxes and an added nonrefundable credit. This credit is then used to offset tax and alternative minimum tax liabilities assessed. Oregon taxpayers claiming this federal credit are not allowed an Oregon credit, but under ORS 316.716 they are permitted to subtract the full amount of taxes paid without reduction for the credit as is required on the federal return. Subtract these expenses on the Oregon return in the year the federal FICA tip credit is claimed, even if the federal credit is carried over. This is an employer benefit that is saving real time tax dollars.
Tip Changes 1/1/14 – New laws on automatic gratuities
Starting January 2014, the IRS announced it will start enforcing and focusing on certain practices of the food and beverage industry regarding the taxability of tips and service charges. The focus is on automatic gratuities, aka “service charges,” which will be under the microscope going forward. As a business owner, automatic gratuities—such as a required percentage added to a customer’s bill for a large party—which ultimately go to the employee are now considered service charges instead of tips. A service charge will be treated like any other taxable wage and will need to be properly classified as wages. Payroll companies are aware of this and should be addressing the issue accordingly. Since this charge is not considered an employee tip, employers cannot include this service charge in either the FICA tip credit calculation or Oregon modifications. Under IRC Revenue Ruling 2012-18, the absence of any of the following factors creates doubt as to whether a payment is a tip and indicates that the payment may be a service charge:
- (1) The payment must be made free from compulsion
- (2) The customer must have the unrestricted right to determine the amount
- (3) The payment should not be subject of negotiation or dictated by employer policy
- (4) Generally, the customer has the right to determine who receives the payment
Employers have the right to decide whether or not to charge an automatic gratuity based on what makes sense for their business and employees. A number of people in the industry say the IRS decision to enforce the rule has made them change their operations to reduce confusion regarding service charges versus tips. The risk to servers is large parties tipping less than the automatic rates.
This new surge in the craft brewery business is offering outstanding opportunities for many to jump in and catch the wave of this exciting industry. However, every new market brings with it new interpretations and applications of the tax code. Understanding how to structure your business to minimize your tax liability will help maximize your bottom line and keep your business growing. Building a robust brewery means another Oregon leader in the pack!
Have a question about anything outlined above? Contact us at anytime, we’d be happy to answer any of your questions. Cheers!
Author: Eric Holtgraves, CPA
This blog post is a summary and is not intended as tax or legal advice. You should consult with your tax advisor to obtain specific advice with respect to your fact pattern. Based on the most recent “best practice” standards for tax advisors issued by the Treasury Department, commonly referred to as Circular 230, we wish to advise you that this blog post has not been prepared to be used, and cannot be used, to provide assurance that penalties which may be assessed by the IRS or other taxing authority (including specifically section 6662 understatement penalties) will not be upheld.