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New IRS Rules Targeting the Restaurant Industry

| September 16, 2013

The IRS has recently updated a tax rule that could cause implications for both restaurants and their employees. The IRS has ruled that any automatic tips included with a bill will now be treated as service charges (IRS). What does this mean? It means that if large parties go into a restaurant and have an automatic 18% gratuity added to their bill, that automatic 18% will be treated as regular wages from the restaurant to the waiter/waitress (IRS). This will also require the restaurant to withhold mandatory payroll taxes on these wages (7.65% of gross pay… 6.2% goes to Social Security and 1.45% goes to Medicare) (IRS). This was not the case before since tips are left up to the employee to report on their income tax return (Wall Street Journal).

This new ruling from the IRS may cause restaurants to rethink automatic gratuities since they would have to pay an additional 7.65% on those amounts every year. Darden Restaurants, owner of Olive Garden, Longhorn Steakhouse, and Red Lobster used to include the 18% automatic gratuity but is now experimenting with eliminating them completely (Wall Street Journal). Moreover, Texas Roadhouse Inc. is planning to phase out their current 18% automatic gratuity by the end of this year (Wall Street Journal). They may be doing this because they view the updated IRS rule as a tax increase, yet one that is avoidable. However, by eliminating the automatic gratuities and therefore eliminating the tax increase, they may also be hurting their employees.

Many people in the restaurant industry know that it is hard work and also know that some people, by their freedom of choice, do not tip very well. The automatic gratuity of 18% for big parties is a way for the restaurant to help alleviate that problem for their employees. If it is done away with as a result of this new ruling, there could be a lot of waiters/waitresses out of tips.        



I personally like to tip around 20%. It’s a fair amount and easy math at the same time. When you go out to eat in the future, just keep in mind that if your waiter/waitress is working really hard and being courteous, they are working for that tip. With the new IRS ruling, you could see your waiters/waitresses working even harder for that tip (since it may not be guaranteed for big parties). Keep this in mind when you write in the tip and total amount.


-Douglas Kaufman

     Financial Advisor, Member FPA

     Kaufman Financial Services


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