An automatic gratuity will be treated as a service charge. Fortunately for many employers in the service industry, restaurants persuaded the IRS to hold off its enforcement of the ruling until January 1, 2014.
This change is expected to be problematic for both employers and many employees in the hospitality industry. For employers, particularly restaurants, the new treatment of automatic gratuities will greatly complicate payroll accounting.
Restaurants will be required to factor any automatic gratuities into the hourly wage of the employee because service charges are treated as nondiscretionary payments by the FLSA (Fair Labor Standards Act).
Because restaurants pay Social Security and Medicaid taxes on the amount its employees claim in tips, restaurants are eligible for an income-tax credit for some or all of these payments. However, a service charge to an employee will be taxed for purposes of Social Security and Medicaid as nontip wages, not included in the calculation for a tax credit.
An employer also cannot use a service charge as a tip credit to meet the minimum wage requirements under the FLSA and state law because service charges are factored into the hourly rate; therefore, they cannot be used to supplement the difference between the set hourly wage and minimum wage.
Now is a good time to review your policies to avoid negative tax consequences for your business.