small business tax and finance
small business tax and finance

Restaurant Tax Tips: Minimize Tax Reporting Errors by Avoiding These Six Common Myths

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There are many misconceptions that lead to tax reporting errors in the restaurant business. We often receive questions or overhear comments from restaurant owners, operators and CFOs about practices that seem normal, but often lead to reporting inaccuracies. Keep reading to discover six tax reporting myths and missteps, and the right way to handle them.

Myth 1: Eating at a competitor’s restaurant is considered research

To some restaurant owners, partaking in the goods and services of a competitor is considered “research” and should be deductible. Unfortunately, the IRS does not agree. Such research is to be considered a meal and entertainment expense, and only 50 percent is deductible for tax purposes. This is important to keep in mind, especially for businesses that depend on such deductions around tax time.

Myth 2: Tipped employees only need to report 8 percent of tips Tipped employees should always report the full amount of actual tips received. The 8 percent rate only applies to analysis on Form 8027, Employer’s Annual Information Return of Tip Income and Allocated Tips. 

Myth 3: The federal minimum wage of $7.25 should be used for calculating the FICA tip credit on federal tax returns

Congress froze minimum wage at $5.15 per hour for the purpose of calculating the FICA tip credit, giving restaurants an incentive for encouraging employees to report all tips. Since fewer tips are needed to bring cash wages to $5.15 than to $7.25 when calculating the credit, computing the credit using wages of $5.15 per hour will yield a more substantial credit.

Myth 4: Discounts associated with cards with incentives can be expensed when the card is sold

Some believe that if a business is selling gift cards with incentives attached (e.g., the customer pays $25, but receives a $30 gift card), the difference between the incentive price and actual credit given can be expensed when the card is sold. However, the discount expense is deductible in the tax year in which the card is redeemed, which may not be the same year the card was sold.

Myth 5: Revenue from a gift card sale can be deferred until the card is redeemed

The IRS has three approved methods for recording taxable income from gift cards:

  1. A cash basis method, where income is recorded on the tax return in the year the gift card is sold.
  2. The one-year deferral method, in which income is recorded at the earlier time of either the redemption of the gift card or one taxable year following the sale of the gift card.
  3. The two-year deferral method, where income is recorded at the earlier time of either the redemption of the gift card or two taxable years following the sale of the gift card. This method is only available if the gift card can only be sold and redeemed by the same taxable entity.

Myth 6: Tips automatically assessed to large parties and on catering contracts can still be considered a “tip” for servers and are part of the FICA tip credit calculation

As of Jan. 1, 2014, mandatory gratuities are now considered service charges. To qualify as a “tip” for a server and for the FICA tip credit calculation, the amount must be voluntarily decided by the customer. Having these funds treated as service charges can add sales tax, payroll and tax credit intricacies to an already complex item to track. Many restaurants eliminated the mandatory charge, and instead, provide customers with a list of suggested tip amounts.

What You Can Do

Tax issues for restaurants are complex. Owners, operators and CFOs must be aware of the nuances of the tax code, or otherwise be prepared to deal with potential burdensome ramifications. However, you can help restaurant clients avoid some of that headache and make sure their taxes are done correctly the first time.

Interested in learning more about tax issues in other industries? Check out the following posts from the Intuit Tax Pro Center:


Jeff Tubaugh, CPA

Jeff Tubaugh, CPA, serves as a tax technical leader in BDO’s Restaurant Practice. He specializes in domestic tax compliance, planning, and consulting for corporations, partnerships, limited liability companies and individuals, focusing on serving those in the restaurant industry. Beyond compliance, Jeff has deep experience consulting with clients on maximizing depreciation deductions and restructuring entities to streamline and lower tax burdens, as well as buying and selling businesses, including clients with transactions involving private equity investments. Jeff is a regular speaker at BDO’s Restaurant CFO Bootcamp, a frequent contributor to Selections, and coordinates Restaurant CFO Roundtables in his local market. More from Jeff Tubaugh, CPA

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