Home > IRS Form 8027 > The Effect of Large Party Automatic Gratuities On Employer FICA Payments and Credits Claimed on Form 8846

The Effect of Large Party Automatic Gratuities On Employer FICA Payments and Credits Claimed on Form 8846

Food and beverage establishments with employees who customarily receive tips can claim a ‘tip credit’ against Social Security and Medicare (FICA) tax payments made on behalf of employees.  Using Form 8846, the employer could list tip amounts, and claim a credit for employee tip income that exceeded the minimum wage for that locale.  For example, if there were an amount of $250 that exceeded the calculated minimum wage for hours worked, then the FICA tip credit would be $250 x 7.65% or $19.12 for the pay period.  This can add up significantly for an employer with many staff receiving tips, but even so many employers fail to take the credit each year.

The rationale behind this credit is that the employer did not receive any accrued benefit from the tips, and also did not make the decision on how much to tip an employee for each meal.  Therefore, their employer FICA payment responsibility only extended to the minimum wage equivalent, and no more.  However, automatic gratuities are set by each employer for their business, and that difference has brought about a rule change from the IRS.

Automatic Gratuities No Longer Are Included on Form 8846

A new rule from the IRS that classifies automatic gratuities on large parties will affect this tip credit.  Those automatic gratuities are now classified as “service charges” as discussed in this article: (LINK TO FIRST ARTICLE ON AUTO GRATS).   Service charges are now no longer classifieds as tip income and instead are included as regular wages, and cannot be claimed for the tip credit along with normal gratuities.  Obviously, this directly affects the amount of taxes employers pay each year, since the credit will be reduced.

One effect of this new rule will be to raise the amounts of FICA paid by employers for Social Security and Medicare.  Those employers who received a FICA Tip Credit to offset their portion of FICA payments, will now be paying additional FICA on any automatic gratuities, even if the amounts exceed the minimum wage.  This effectively raises their tax burden in addition to the increase in wages that would need to be paid.

The only way to avoid this rule change is to eliminate automatic gratuities for large parties, and instead allow customers to tip a “suggested amount”.  It is unclear why the IRS implemented this rule change with regard to automatic gratuities, except for the reason that those amounts were being fixed by the employer as part of employee compensation.  In any case, the rule is forcing some food and beverage establishments to change their policies on automatic gratuities, which may be more of a burden for employees who will not be assured of a fixed percentage tip on large parties.

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Erich J. Ruth

Erich J. Ruth provides technical support for National Software which is the parent company for 1099FIRE. 1099FIRE develops and markets a comprehensive range of products that enables any size of business or institution to effectively manage and comply with year-end filing requirements. 1099FIRE is an employee-owned company located in Phoenix, Arizona.

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Categories: IRS Form 8027 Tags: ,
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