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TIP Reporting: Salon & Spa Owners Cannot Make Up Their Own Rules
September 25, 2017 | By Neil Ducoff | 3 Comments
A thread in our Salon, Spa, Business Idea Exchange Discussion Group on Facebook prompted this post.
An owner posted, “I have a question about the cash that gets handed over to the service provider. Are you saying we are supposed to have all employees at the end of the day give back all their cash tips received and then I put that into their pay?”
What ensued was a barrage of back and forth posts that were divided into two groups:
Group One believes, as one owner stated, “Taxing tips is not your [the owner’s] problem, it’s the employees. Don’t worry about them. Educate your employees about claiming cash tips and let it go.”
Group Two believes, “Tips are income earned at work and subject to the same withholding tax as regular pay — and employers are responsible to report and pay those taxes.”
Which group is correct? Obviously, it’s Group Two.
It was just plain scary how owners in Group One vehemently defended their position that IRS Tax Law on tip reporting and taxes is not their responsibility.
Tip Tax Compliance is an Industry Problem
Group One isn’t just a few tax-defiant owners. It includes a huge portion of employee-based businesses and independents. So much so, that Group Two tax compliant salons/spas are in the minority.
Here are just a few of the “red flag” quotes from Group One:
- The employer only taxes credit card tips — the employee claims the cash tips on their income tax.
- Reported tip income to the employer during any pay period is, at a minimum, equal to 8% of your total receipts for that period.
- We only accept tips by cash or check.
- We have an ATM for client convenience and we earn a few hundred dollars each month on our ATM machine.
With 45+ years teaching and coaching salon/spa owners, I totally understand both the temptations of a “cash business” — and misinterpretations of IRS Tax requirements for tip reporting.
- In response to, “It’s the employee’s responsibility to report cash tips”: Roy Fredericks, owner of the Avant Salons in Austin, TX, said it best, “That was my philosophy until I was audited for tips. The IRS had a different philosophy. They won. I paid them $70,000 for taxes on two years of tips.”
- In response to, “Reported tip income to the employer … at a minimum, must be equal to 8% of total receipts for that period”: The owner’s post was quoting an IRS report for “Reporting Tip Income at Restaurants.”
- In response to, “We only accept tips by cash or check”: IRS could care less because, according to Tax Law, tips are income earned at work and are taxable.
- In response to, “We have an ATM for client convenience …”: Great idea! That ATM is massive red flag that instantly tells an IRS Auditor, “This ATM dispenses cash for the sole purpose of funding unreported tip income.” When ATM transaction totals are matched against low reported tip income in the business, IRS will do its own math on tip percentage average from your credit card charges. That few hundred dollars a month it earns for the owner won’t put a dent in the back taxes and penalties that will be owed.
Tip Tax Compliance —The industry needs a massive wake-up call
The only true authority on Tip reporting is the IRS. If your approach to Tip Reporting and Withholding Tax is to “ignore it,” install an ATM, forbid tips on credit cards … and generally assume it’s your employees’ responsibility — you really need to wake up and do your research directly with IRS.
- IRS is very willing to explain the laws regarding Tip Reporting and Tax Withholding and what the employer’s responsibilities are.
- IRS is more interested in “Tip Tax Compliance” than the salon/spa realizes. When the debating and arguing is done, “Tips are income earned at work and subject to Federal Income Tax.” Because tips are earned at work, IRS regards tips as “paid by the employer to the employee.”
NOTE: The IRS has had extremely accurate “Audit Procedures for Beauty Salons” for years. They know where to look for “cash” including tips and personal expenses run through the business. The IRS isn’t stupid. They are brilliant and thorough at auditing salons/spas and owners.
Here’s the link to the Audit Procedures from the IRS.gov website. READ IT.
- Be sure to read pages 13 – 15 on, “Tip reporting and how to calculate tip income.”
- Pages 16 – 21 cover the “Initial Interview and Information Document Request” with questions and records designed for the salon industry.
Here’s my challenge to you: Please do the necessary research to understand IRS requirements for Tip Reporting and tax compliance. Go to IRS.gov and search “beauty salons,” “tip reporting salons,” “salonspa tipping.” DO NOT post a question on a Facebook discussion group asking fellow salon/spa owners for guidance on proper Tip Reporting. You’ll get opinions, misinformation and questionable business practices.
To get you started, here is an excerpt from the “Cash Intensive Businesses Audit Techniques Guide – Chapter 10 – Beauty and Barber Shops”.
- Internal Revenue Code (IRC) section 61 defines tips as reportable and taxable income. IRC section 6053(a) imposes reporting requirements for tip income. An employee is required to give his or her employer a written report of tips earned for each month by the 10th day of the next month. This report is required for each month that an employee receives tips of $20 or more while working for that employer.
- IRC section 3121(q) pertains to the employer FICA taxes with respect to tips received by its employees. IRC section 3121(q) states that tips are remuneration and are deemed paid by the employer to the employee. If the employee reports the tips to the employer, they are deemed paid when they are reported. Thus, the reporting rules, the deposit rules, and the contribution bases and rates are all applied as of the date the tips are reported by the employee to the employer. Section 3121(q) also states that, if the employee fails to report tips or incorrectly reports them, the tips are deemed paid when the employee received them. This received date governs for all purposes, but it does not govern any provisions under subtitle F that pertain to employer FICA taxes. (Subtitle F sets out the procedure and administration rules, including the reporting requirements and deposit requirements.) For purposes of employer FICA taxes and subtitle F, if the employee does not report the tips, they are deemed paid when the Secretary makes notice and demand to the employer.
Categories: Monday Morning Wake-Up