Payroll

IRS guidance: Is it a tip or a service charge?

 The IRS recently issued guidance on the difference between a tip and a service charge.

The distinction is important because service charges are considered revenue of the establishment. To the extent that the service charges are, in turn, paid to the employees, that amount is compensation, subject to all payroll taxes and withholdings.

The employer’s calling the payment a “tip” is not conclusive. Customer payments are considered tips when all of the following requirements are met:

1. The amount must not be determined by the employer.

2. The customer has full discretion to determine the amount of the payment.

3. The payment must be freely made.

4. The customer can generally decide who receives the payment.

The IRS believes that the absence of any of these components suggests that the payment is a service charge instead of a tip.

This is an important clarification because the amount of com­pensation paid to employees affects not only the computation of payroll and withholding taxes due but also the calculation of other benefits based on compensation. In addition, service charges are not eligible for the employer tip credit.

In Announcement 2012-25, the IRS advises all businesses to make any needed system or procedure changes to fully conform to these rules by Jan. 1, 2013.

Tax credit for hiring qualified veterans extended, expanded

A new act extends the work opportunity tax credit for one year but only for qualified veterans who begin work before Jan. 1, 2013. The act also makes a number of changes for hiring qualified veterans.

The Three Percent Withholding Repeal and Job Creation Act was signed by President Obama on Nov. 21, 2011.

Effective for individuals who begin work after Nov. 21, 2011, a qualified veteran is a veteran who is certified by the designated local agency as falling within one of the following categories:

1. The individual is a member of a family receiving assistance under a food stamp program for at least three months, all or part of which is during the 12-month period ending on the hiring date.

2. The individual is entitled to compensation for a service-connected disability and either:

  • Has a hiring date that is no more than one year after having been discharged or released from active duty in the U.S. Armed Forces
  • Has aggregate periods of unemployment during the one-year period ending on the hiring date that equal or exceed six months

3. The individual has aggregate periods of unemployment during the one-year period ending on the hiring date that equal or exceed four weeks (but less than six months).

4. The individual has aggregate periods of unemployment during the one-year period ending on the hiring date that equal or exceed six months.

The last two categories of qualified veterans are new under the act.

Effective for individuals who begin work after Nov. 21, 2011, the maximum amount of qualifying first-year wages against which the credit may be claimed is:

  • $12,000 for an individual who is a qualified veteran entitled to compensation for a service-connected disability and has a hiring date that is no more than one year after having been discharged or released from active duty. The maximum credit is $4,800 (40 percent of $12,000).
  • $24,000 for an individual who is a qualified veteran entitled to compensation for a service-connected disability and has aggregate periods of unemployment during the one-year period ending on the hiring date that equal or exceed six months. The maximum credit is $9,600 (40 percent of $24,000).
  • $14,000 for an individual who is a qualified veteran having aggregate periods of unemployment during the one-year period ending on the hiring date that equal or exceed six months. The maximum credit is $5,600 (40 percent of $14,000).

A tax-exempt employer may claim a credit for hiring qualified veterans as if it were not tax-exempt. The credit is allowed against the Social Security tax that the exempt employer would otherwise have to pay on the wages of all its employees during the one-year period beginning with the day the veteran goes to work for the tax-exempt organization.

2011 Overview: End-of-year tax legislation

In the closing days of 2011, Congress passed tax legislation that temporarily extended a payroll tax cut, but did not extend two important depreciation incentives – a lack of action that will be important as taxpayers plan their income and deductions for 2012.

For 2011, Congress reduced by 2 percent the employee share of the Social Security tax and the self-employment tax rates, hoping to stimulate consumer spending.

However, when it came time to extend this cut for 2012, Congress could not agree on how to pay for a one-year extension. So, the 2 percent waiver of Social Security tax was effective through Feb. 29, 2012.

In February 2012, Congress finally agreed to extend the payroll tax cut through the rest of the year, and President Obama signed this extension into law on Feb. 22, 2012.