The FICA Tip Credit offers hospitality business owners a valuable opportunity to reduce payroll tax expenses, yet it often flies under the radar. Despite being introduced over 30 years ago, this credit remains underutilized by many in the industry.
Designed to help employers offset the costs of FICA and Medicare taxes for tipped employees, the credit applies to tips that meet the IRS’s specific definition: “those tips received from providing, delivering, or serving food or beverages for consumption, where tipping is customary.”
Taking advantage of this credit can lead to significant savings, but it’s important to clearly understand the requirements and implement them properly. When meeting compliance and accurately reporting, hospitality business owners can maximize this tax benefit.
The following guidelines must be met for an employee to receive a tip:
- They must receive a minimum of $2.13 per hour in base wages.
- They regularly receive a minimum of $30 per month in tips.
- They must hold a position that customarily receives tips such as servers, bartenders, bussers, bellhops, and counter personnel.
- They can be part of a pool where tips are shared in a specific arrangement. However, this cannot include employees who do not regularly receive tips, such as dishwashers, cooks, chefs, and janitors.
- The employee must be informed that they qualify for the tip credit.
- The employee is not considered tipped if they receive a “flat” service charge.
- If the employee is leased, the employer is responsible for paying FICA and Medicare; the employee is entitled to the tip credit.
The payroll department must track wages subject to tips and hours worked to calculate and claim the FICA Tip Credit.
The calculation for the FICA Tip Credit is as follows:
- Determine total hours worked, tips received, and wages paid.
- If an employee works both a tipped position and a non-tipped position, you must separate the payroll for each department and only use the tipped position wages and information for this calculation.
- Determine the wage if the employee received a minimum wage of $5.15 for the hours worked.
- The credit is calculated at the federal minimum wage set. So, even if you are in a state that has a higher minimum wage, you must use $5.15 for this calculation.
- Subtract the wage amount that would have been paid at $5.15 per hour from the actual paid wage amount.
- Multiply this difference by 7.65%. This is your credit amount.
Example
| Employee | Hours Worked | Tips Received | Wages Received | Total Wages plus Tips | Wage At $5.15 | Excess Tips Available for Credit | Tip Credit |
|---|---|---|---|---|---|---|---|
| Alford, June | 225 | $450.00 | $1,631.25 | $2,081.25 | $1,158.75 | $922.50 | $70.57 |
| Hartman, Max | 375 | $650.00 | $2,437.50 | $3,087.50 | $1,931.25 | $1,156.25 | $88.45 |
| Smith, John | 155 | $275.00 | $542.50 | $817.50 | $798.25 | $19.25 | $1.47 |
If you decide to apply this credit, you will file Form 8846 – FICA Tip Credit with your federal tax return. The credit is passed down to the company’s owners unless you are a C corporation. Your payroll tax expense will be credited for the total FICA Tip Credit you received raising taxable income. However, then you will have a credit that will apply to the taxable income of the company’s owners. Please keep in mind that this is a dollar-for-dollar credit.
Since the FICA Tip Credit reduces your company’s federal payroll tax expense, many states allow you to apply a “subtraction” to the state wages for the credit amount. Most states handle this automatically in their state tax return calculations, but it’s worth confirming to ensure accuracy. Navigating the complexities of the FICA Tip Credit and its implications can be challenging, so partnering with an accounting professional specializing in the restaurant industry is highly recommended.