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Tips and Taxes

 

Gratuities are income, and the IRS requires an accounting, just like any other income, although there are special rules and paperwork. If you find that you do need to pay tax on your tips, use Form 4137, Social Security and Medicare Tax on Unreported Tip Income. Here you can report the amount of any unreported tip income, including it as additional wages.

You must pay tax on these categories of tips you receive during the year:

  • Tips from customers.
  • Tips that were added to credit or debit cards.
  • Tips you receive from a tip-splitting agreement with other employees.
  • Tips that your employer distributes.

Here's how the system works: You receive $20 or more in tips in a month. You report the tips to your employer. The IRS wants you to do it by the 10th day of the next month.

When reporting tips, include tips that you received as cash, checks, and credit or debit card payments. Your employer needs to know the amount so that he or she can withhold federal income, Social Security and Medicare taxes on the reported tips.

A tip about reporting tips: Use IRS Publication 1244, "Employee's Daily Record of Tips and Report to Employer." This will help you report the correct amount of tips for your tax return. To the IRS, tips are taxable income just like wages. If you earn tips, you're responsible for paying income, Social Security and Medicare taxes on the tip money you receive.

When and how you report tips is important for avoiding penalties. It's true that working for tips is hard, but the rules for tips and taxes can make life even harder if you don't know what to do.

Tips are taxable — even cash tips. You have to report all your tips to your boss each month if they equal or exceed $20. You need to report last month's tips by the 10th of the current month. If the 10th falls on a weekend or a holiday, you can do it the next business day.

Service charges, which are fees automatically added to a customer's bill, are considered regular wages by the IRS. This means you'll probably see them on payday rather than at the end of each shift. These include costs like:

  • Bottle service charges.
  • Room service charges.
  • Delivery charges.
  • A gratuity automatically added for large parties.

If you have to share or pool your tips, keep daily records of what you actually net. For instance, if you get $100 but have to give a total of $25 to the bartender and the busboy, you net $75. It may be tempting to avoid reporting your tips, but tips on credit and debit cards leave a paper trail that could come back to haunt you if you're audited. Also, if you don't report tips, the Social Security Administration doesn't know you earned the money, and that can affect the size of your benefits when you retire.

This is just a summary — there may be other rules and exceptions that affect you. Be sure to keep records of your wage and tip income, and discuss your situation with a qualified professional.

 
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Davis & Graves CPA, LLP
Davis & Graves CPA, LLP
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Our firm provides the information in this e-newsletter for general guidance only, and does not constitute the provision of legal advice, tax advice, accounting services, investment advice, or professional consulting of any kind. The information provided herein should not be used as a substitute for consultation with professional tax, accounting, legal, or other competent advisers. Before making any decision or taking any action, you should consult a professional adviser who has been provided with all pertinent facts relevant to your particular situation. Tax articles in this e-newsletter are not intended to be used, and cannot be used by any taxpayer, for the purpose of avoiding accuracy-related penalties that may be imposed on the taxpayer. The information is provided "as is," with no assurance or guarantee of completeness, accuracy, or timeliness of the information, and without warranty of any kind, express or implied, including but not limited to warranties of performance, merchantability, and fitness for a particular purpose.
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