When you’re a small business owner running a full-service restaurant, you can’t afford to make financial missteps. It’s especially important for small businesses to keep an eye on their labor costs. As all restaurant owners well know, restaurant industry payroll is highly complex making it more prone to errors. Not only do you have to figure out wages for your tipped employees, but you also have the added complication of figuring out shortfalls and calculating your FICA tip credit. That’s a lot of computing—and a lot to potentially mess up.
State Minimum Wage Laws
States’ minimum wage requirements vary, but federal law dictates that if you operate in a state that uses the Federal Labor Standards Act (FLSA) federal minimum wage, your employees have to earn enough in tips to make up the difference between the state’s minimum wage and the FLSA minimum. For example:
In Arkansas, the minimum wage is $10.00 an hour. State law dictates that an employee who receives tips must be paid at least $2.63 per hour worked. If the employee doesn’t make at least $7.37 an hour in tips, you’re responsible for making up the difference.
A handful of states require employers to pay their tipped employees the full state minimum wage before tips.
Some states mandate that employers pay their tipped employees a minimum wage above FLSA requirements (currently $2.13/hour).
- New Hampshire
- New York
- North Dakota
- Rhode Island
- South Dakota
- Washington D.C.
- West Virginia
Other states have a minimum wage payment that is equal to FLSA at $2.13.
- New Jersey
- New Mexico
- North Carolina
- Puerto Rico
- U.S. Virgin Islands
And some states have no minimum cash wage law on the books; they pay the federal rate of $7.25 an hour.
- South Carolina
Who’s Considered a Tipped Employee?
Regardless of their position in the restaurant, according to the Department of Labor, a tipped employee is one who repeatedly receives more than $30 a month in tips. Most full-service restaurant employees will earn far more than $30/month in tips. In fact, in their survey of more than 15,000 restaurant workers, Payscale found that servers worked a median of 31.70 hours a week, earning $3.40 an hour in tips.
A tipped employee must still make federal minimum wage of $7.25 an hour, but as much as $5.12 of that minimum wage can be earned through tips.
What’s the Hourly Tip Credit?
You can take a tip credit of up to $5.12 per hour against the federal minimum wage. The thinking behind this practice is that the employee’s tipped income should be enough to make up the $5.12. If the employee does not make up the difference in tips, then the tip credit will not be enough to meet minimum wage requirements. When this happens, you are responsible for making up the difference of the tip shortfall. To ensure that your numbers are accurate, it’s best to set up a daily tip report system to track tips. Paycor can help! Our payroll solution allows tips to be keyed or imported directly into your paygrid.
What is the FICA Tip Credit?
The IRS enacted an income tax credit known as the FICA Tip Credit. The goal of the FICA tip credit is to ensure that restaurants are reporting staff tip earnings. The FICA Tip Credit is calculated on any tips claimed over $5.15 per hour calculated at the FICA percentage of 7.65. If a restaurant owner chooses to participate, the credit may help the employer save hundreds of dollars each year per employee.
Paycor can help by calculating and providing you with the Tip Credit Detail Report. Your tax credits are reported on IRS Form 8846.
Employee Tip Reporting
Employees are required to report all wages and tip income to you in addition to the IRS. The IRS says that you’re responsible for ensuring that all of the tip income that your employees report during a pay period equals at least 8% of your restaurant’s total receipts during the same pay period.
If the total amount of tip income you report is less than 8%, you’re required to make up the difference via one of two methods: gross receipt or hours worked. A good faith agreement is another method the IRS allows, but it’s not recommended and rarely used, so we’ve left it out of this post.
- Gross receipt method — Compares gross receipts to your total restaurant receipts to determine how much tip income an employee should have reported.
- Hours worked — Companies that employ fewer than 25 full-time employees can use this method to allocate tips. In this case you use the total number of hours employees work during a pay period rather than your gross receipts.
At the end of the year if the employee has not claimed 8% of gross receipts you will allocate tips to the employee that will report I box 8 on Form W-2. You will reconcile the claimed tip amounts annually on Form 8027.
How to Calculate Overtime
Overtime is calculated on the full minimum wage and not the cash wage payment minus the tip credit. For example, let’s go back to the Arkansas restaurant. State minimum wage is $9.25 an hour, and the minimum wage for restaurant employees is $2.63. Any overtime hours will be paid at $9.25, not $2.63.
If you think all of this sounds complicated, you’re right. Sure, you can manually process your payroll, but should you?
There’s no need to go it alone. In fact, most restaurant owners seek outside help to run payroll. There are two ways to do this: You can hire an accountant or use a payroll service for your restaurant. Especially if you’re new to the restaurant world, the best way to help ensure that you’re properly calculating your payroll tax, maintaining compliance with labor laws, and getting all the tax credits and benefits possible is to get expert help.