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FICA Tip Credit: Serving Up Savings

Owning a restaurant seems like a glamorous idea, or at least it did to me, but there’s more to running a restaurant than cooking good food and mingling with customers. In order to be a successful restaurateur you have to have a good grasp on the fundamentals on running your establishment. You have to meet customer demands, maintain inventory as well as staff and manage expenses. Ensuring that expenses are recorded properly and issued appropriately might be one of the most daunting tasks, especially with the ever-changing regulations under the Federal Insurance Contributions Act (FICA). Going into 2014, new modifications have been prompted yet again and should be noted.

By law employers must pay taxes on these tips earned, as they are seen as income. Fortunately, there is a loophole known as a tax credit that allows restaurant owners to recover most of the money taken from tips. Those that choose to leverage this credit have the opportunity to save significant amounts of money.

What is FICA Tip Credit?

Food and beverage establishments accustomed to tipping, are entitled to a 45(B) credit for part of the taxes paid on tips earned by employees. An amount of 7.65% can be taken as a business credit on your corporate tax return.

What’s Changed?

According to the Revenue Ruling for 2012-18, service charges can no longer be included in the FICA  Tip Credit Report. Rather, service charges are determined as wages not tips and must be filed differently. The IRS guidance issued four criteria for determining whether amounts paid by patrons should be regarded as service charges or tips.

Criteria to be considered a tip:

  • The payment must be made free from compulsion.
  • The customer must have the unrestricted right to determine the amount.
  • The payment should not by the subject of negotiation or dictated by the employer.
  • The customer has the right to determine who receives the payment.

It is important to note that tip pooling, tip sharing and gratuities are no longer applicable for the FICA Tip Credit and are subject to taxes.

Benefits of Applying

Aside from the tax credits scarce identity among restaurant owners, it must be formally requested, which may also indicate why many are not taking advantage of it. However, owners using FICA tip credit potentially save hundreds for every employee that correctly reports their tip earnings. If you consider all servers and staff, the savings are substantial. Eligible applicants, it would behoove you to familiarize yourself with FICA tip credit and determine the best plan for your business. With regards to eligibility, there are two established criteria for the FICA tax credit:

  • Businesses have employees who were given tips for providing, delivering and serving food or beverage for consumption.
  • Businesses paid or those that incurred employer social security and Medicare taxes on these tips.

How to Calculate a FICA Tip Credit

On average a server makes $2.13 an hour plus tips. With FICA tip credit, a server makes $5.15 an hour (based on the old minimum wage). After tips, a server ends up making roughly 11 dollars. With FICA, the employer pays taxes on the 11 dollars earned, but is entitled to credit at the end of the year on the difference between minimum wage and the actual amount earned by the employee.

Take for example, Billy. Billy worked 40 hours a week making $2.13 an hour. Billy reported $300 in tips for the entire week. The Federal wage rate is $5.15 an hour for the purpose of FICA tip credit. In this case, a restaurant owner would save over $713.44 annually for this one employee. Here’s how it looks all spelled out.

Weekly Wages = Hours Worked X Hourly Rate + Reported tips

40 x $2.13 + $300 = $385.20

Wages Paid at Minimum Wage = Hours Worked x Federal Wage Rate

40 x $5.15 = $206.00

Tax Credit = Weekly Wages – Wages Paid at Minimum Wage x FICA

$385.20 – $206.00 x 7.65% = $13.72

Annual Savings per Employee = Tax Credit x Payroll Frequency

$13.72 x 52 weeks = $713.44 annually

The Paycom Solution

The savings allotted to restaurant owners from FICA are significant but the process in which to keep track with expenses can be a mess. However, Paycom can help by automatically producing a FICA Tip Credit Report that can be generated every pay period. No more hassle and confusion, everything is done for you. And with the ease of a single application and capability to alleviate compliance risks, Paycom allows you to focus on what really matters, your customers.