New IRS Tip Rule Is Bad News For Businesses And Employees

Many restaurants automatically add a gratuity to a check for a party of 8 or more customers. However, an update to IRS tax rules may soon cause restaurant owners to do away with this policy. As of January 2014, any gratuity that is automatically added to a check will no longer be considered tip wages in the eyes of the IRS. Now, if the customer is required to pay the amount, these earnings will be considered a service charge and taxed as regular wages.

So what does this mean for businesses and employees? Payroll taxes will increase as the service charge amounts will be subject to not only FICA and Medicare but also unemployment tax. The change will certainly complicate payroll accounting for restaurants that already face increasing costs and record keeping requirements as a result of Obamacare.

The new rule is no bargain for wait staff either. Employees that depend on receiving all of their tips at the end of a shift would no longer have this option. Individuals would have to wait to receive their weekly or bi-weekly pay checks in order to receive their wages. Wait staff who work in restaurants that eliminate the automatic gratuity will potentially see a reduction in tips for large parties.

These amendments to the tax law are causing restaurant owners to examine their automatic gratuity options. Olive Garden, Red Lobster and Longhorn Steak House are experimenting in 100 restaurants with suggesting amounts that employees can elect to tip. Checks include totals with 15%, 18% and a 20% tip option. Patrons can also choose not to tip at all. The IRS has determined that in this case, because the amount being tipped is still voluntary, these wages will still be considered gratuity. Only when customers do not have a choice in the amount of gratuity provided to the server would the wages be considered regular wages. Other restaurant owners plan on completely doing away with their policy of tips being calculated into checks automatically come January to avoid any payroll headaches spurred by the new law.