Automatic Gratuity Law Overview For Restaurant Owners
Updates and changes to tax-related rules and regulations are common, which is why it is crucial to stay abreast of events, like the automatic gratuity law, that have the potential to affect your compliance. The policy issued in 2012 (the automatic gratuity law) that changed the way tips are considered in relation to income was only recently implemented. This lengthy time frame allowed restaurants sufficient time to adjust their practices. The Internal Revenue Service (IRS) has reclassified automatic gratuities so instead of being considered tips, they are now considered standard wages. Given their new classification, they are subject to income taxes.
Are You a Restaurant Owner? Consider These Affects Of The Automatic Gratuity Law
As a result, many restaurants have reconsidered the practice of automatically adding tips into customer bills. Automatic gratuities now mean increased paperwork, costs, and payroll complications. For wait staff, this is likely to result in lost earnings. Income that was previously untaxed is now subject to withholding. Those who serve international travelers may suffer because many cultures do not consider gratuity – and aren’t likely to offer it if not included in a bill.
Gratuity Criteria From The IRS
The following criteria have been established by the IRS, which must be satisfied to be considered gratuity for tax purposes:
- The customer should make the payment willfully, and free from compulsion.
- The customer decides the amount of money to be offered as a tip.
- Payments of gratuities are not subject to negation by the staff, or to restaurant policies.
- The customer determines which employees receive gratuities.
Automatic gratuities are viewed by the IRS as forcing or compelling customers to make payments that exceed the amounts on their actual bills, and dictates amounts that restaurants consider reasonable tips.
How Should You Proceed in the Future?
To avoid issues with compliance, many affected businesses are either eliminating automatic gratuities from their practices or eliminating tipping overall. They are instead paying wait staff more and offsetting these increased costs by raising the prices on their menus. This has the added benefit of cultivating more equality among staff that had not previously been eligible to receive tips. Other businesses are opting to provide basic information regarding tipping to their customers, such as calculations for suggested tips. These come in the form of dollar amounts at 15, 18, and 20 percent of their bills. Customers are then able to decide how best to tip. These proactive steps are suggested for ensuring full compliance with recent regulatory changes and the automatic gratuity law:
- Thoroughly review policies and procedures and make needed changes to both automated and manual reporting systems. These should clearly reflect the differences between charges and tips.
- Allow customers to have full, pressure-free discretion in tipping.
- Consult with qualified attorneys, tax advisors, and payroll service providers if additional guidance is needed.
What This Means To Restaurant Owners
Full compliance means you’ll avoid the potential penalties and liability issues. It also allows businesses to take advantage of the FICA tip credit that enables business owners to pay staff members who receive tips less than minimum wage.