Overview of Tip Income
All cash and non-cash tips received by an employee are income and are subject to Federal income taxes. If an employee earns less than $20 per month in tips, the tips are not required to be reported and taxes are not required to be withheld. However, all cash tips over $20 per month are subject to Social Security and Medicare taxes and must be reported to the employer.
Taxable Nature of Tips
Tips are considered taxable income, just like wages. Employees are responsible for paying income tax, Social Security tax, and Medicare tax on tip income.
Calculating and Reporting Tips
The IRS assumes that employees working in restaurants or similar industries will earn tips averaging 8% of gross receipts. If employees report earning less than this, the IRS may investigate. The law requires employees to report 100% of tip income.
Whether tips are cash or electronic, all are taxable income. Employees pay income, Social Security, and Medicare taxes on tips. If tip taxes exceed your paycheck, your employer won’t cover the difference.
If monthly tips per employer are under $20, they needn’t be reported or taxed. If reported tips are under 8% of receipts, the difference is allocated among tipped employees.
Tips for Servers
A 15-20% tip is expected at restaurants. Tips are higher when wages are lower. For example, waiters earn more in tips than wages.
Importance of Claiming Tips
Claiming over $20 daily helps avoid owing money at tax time. It also helps qualify for loans by proving income. Not claiming tips can hurt chances for mortgages, car loans, and more.