As an employer, do I have any liability for Social Security and Medicare taxes if my employees receive tips but don't report them to me?

Answer:

Yes. Employers must report and pay taxes on tips employees report to them. However, if an employee fails to report tips to his or her employer, many employers don't realize that they're also liable for the employer share of Social Security and Medicare taxes on the unreported tips, though not until the notice and demand is made to the employer by the Service.

  • Tipped employees are required to report their cash tips to their employers by the 10th of the month after the month the tips are received. If the 10th falls on a Saturday, Sunday, or legal holiday, your employee must report tips by the next day that's not a Saturday, Sunday, or legal holiday. Cash tips include tips paid by cash, check, debit card, and credit card. The employee’s report should include tips you paid over to the employee for charge customers, tips the employee received directly from customers, and tips received from other employees under any tip-sharing arrangement. Thus, both directly and indirectly tipped employees must report tips received to their employer. No report is required for months when tips are less than $20.
  • You, as an employer, must collect and pay the employee share of Social Security and Medicare taxes on tips your employee reports. You can collect these taxes from the employee's wages or from other funds he or she makes available. See Publication 15, Section 7, Supplemental Wages, Tips are treated as supplemental wages, for more information. You must also pay the employer share of Social Security and Medicare taxes on all reported tips. However, you will reduce your total taxes by the amount of any uncollected employee share of Social Security and Medicare taxes on tips. See the Instructions for Form 941, Adjustment of Tax on Tips PDF.
  • For unreported tips, your liability for the employer share of Social Security and Medicare taxes doesn't arise until the Service issues you a Section 3121(q) Notice and Demand. The tax due shown on the notice and demand may be based on tip audits, data from Form 8027, Employer’s Annual Information Return of Tip Income and Allocated Tips or Form 4137, Social Security and Medicare Tax on Unreported Tip Income. The employer isn't required to withhold and pay the employee share of Social Security and Medicare taxes on unreported tips.
  • You must file Form 8027 if you operate a large food or beverage establishment. A large food or beverage establishment is a food or beverage operation located in the 50 states or in the District of Columbia that provides food or beverages for consumption on the premises and has employees who customarily receive tips. Additionally, the employer must normally employ more than 10 employees on a typical business day during the previous year. If you're the employer at a large food or beverage operation, see the Instructions for Form 8027 to determine if you must file this form and whether it must be filed electronically. You may also be required to allocate tips if the total tips reported to you during any payroll period are less than 8% (or an approved lower rate) of gross receipts. Report the allocated amount on the employee's Form W-2, Wage and Tax Statement.
  • Form 4137 is used by employees to report and pay their share of Social Security and Medicare taxes on tips they didn't report to you. This should include any allocated tips shown on Form W-2, unless the employee has adequate records (a daily tip record or other credible evidence) to show that they received less tips in the year than the allocated amount.

If the reported tips from employees of a large food or beverage establishment are 8% or more of sales, must an employer still allocate tips to the employees?

Answer:

No.

  • Tip allocation is only required when the amount of tips reported during any pay period by employees of a large food or beverage establishment is less than 8% (or an approved lower rate) of the gross receipts (other than nonallocable receipts) for the given period.
  • If the tipped employees are reporting 8% or more, there would be no allocated tip amount. No allocation is made to indirectly tipped employees.
  • The employer must still file Form 8027, Employer's Annual Information Return of Tip Income and Allocated Tips.
  • The employer is also still required to withhold and pay taxes regarding all reported tips.

 

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