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Tips and payroll taxes: IRS serves up new restaurant rule

Payroll taxes cost employers plenty. After all, it isn’t only the amounts of Social Security, Medicare and federal unemployment taxes to be paid that are involved.

There is also the administrative matter of taking care of the accounting aspects of these taxes, as well as federal income tax. This means arranging for proper reporting, depositing and withholding. It is no wonder, then, that so many companies outsize their payroll functions to third parties.

The last thing most employers want, then, is a tax law change that imposes more employment tax requirements. Yet that is what the restaurant industry is facing, starting next year. The IRS has already announced that, as of January 1, it will begin classifying automatic tips as service charges. Those charges are considered wages, and so must be included in payroll tax withholding.

At present, automatic gratuities, like all other tips, are employees’ responsibility to report as income. To be sure, not all server-employees comply with this. But it is server-employees, not employers, who are responsible.

The coming change has the restaurant industry concerned. The change will not only mean more administrative work and tax compliance costs for management. It could also put a dent in the pocket books of waiters and waitresses, many of whom have not reported automatic gratuities as income.

Of course, another possibility is that restaurants will respond by phasing out the use of mandatory gratuities. Texas Roadhouse, Inc., for example, currently included an automatic gratuity of 15 percent for parties of eight or more at many of its locations. The company is planning to change that policy, however, by year’s end.

Source: The Wall Street Journal, "IRS Rule Leads Restaurants to Rethink Automatic Tips," Julie Jargon, September 4, 2013

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