Questions about taxes and tips? Here are some answers for employers

Questions about taxes and tips? Here are some answers for employers

Businesses in certain industries employ service workers who receive tips as a large part of their compensation. These businesses include restaurants, hotels and salons. Compliance with federal and state tax regulations is vital if your business has employees who receive tips.

Are tips becoming tax-free?

During the campaign, President Trump promised to end taxes on tips. While the proposal created buzz among employees and some business owners, no legislation eliminating taxes on tips has been passed. For now, employers should continue to follow the existing IRS rules until the law changes — if it does. Unless legal changes are enacted, the status quo remains in effect.

With that in mind, here are answers to questions about the current rules.

How are tips defined?

Tips are optional and can be cash or noncash. Cash tips are received directly from customers. They can also be electronically paid tips distributed to employees by employers and tips received from other employees in tip-sharing arrangements. Workers must generally report cash tips to their employers. Noncash tips are items of value other than cash. They can include tickets, passes or other items that employees receive from customers. Workers don’t have to report noncash tips to employers.

Four factors determine whether a payment qualifies as a tip for tax purposes:

1. The customer voluntarily makes a payment,
2. The customer has an unrestricted right to determine the amount,
3. The payment isn’t negotiated with, or dictated by, employer policy, and
4. The customer generally has a right to determine who receives the payment.

There are more relevant definitions. A direct tip occurs when an employee receives it directly from a customer (even as part of a tip pool). Directly tipped employees include wait staff, bartenders and hairstylists. An indirect tip occurs when an employee who normally doesn’t receive tips receives one. Indirectly tipped employees can include bussers, service bartenders, cooks and salon shampooers.

What records need to be kept?

Tipped workers must keep daily records of the cash tips they receive. To do so, they can use Form 4070A, Employee’s Daily Record of Tips. It’s found in IRS Publication 1244.

Workers should also keep records of the dates and values of noncash tips. The IRS doesn’t require workers to report noncash tips to employers, but they must report them on their tax returns.

How must employees report tips to employers?

Employees must report tips to employers by the 10th of the month after the month they were received. The IRS doesn’t require workers to use a particular form to report tips. However, a worker’s tip report generally should include the:

• Employee’s name, address, Social Security number and signature,
• Employer’s name and address,
• Month or period covered, and
• Total tips received during the period.

Note: If an employee’s monthly tips are less than $20, there’s no requirement to report them to his or her employer. However, they must be included as income on his or her tax return.

Are there other employer requirements?

Yes. Send each employee a Form W-2 that includes reported tips. In addition, employers must:

• Keep employees’ tip reports.
• Withhold taxes, including income taxes and the employee’s share of Social Security and Medicare taxes, based on employees’ wages and reported tip income.
• Pay the employer share of Social Security and Medicare taxes based on the total wages paid to tipped employees as well as reported tip income.
• Report this information to the IRS on Form 941, Employer’s Quarterly Federal Tax Return.
• Deposit withheld taxes in accordance with federal tax deposit requirements.

In addition, “large” food or beverage establishments must file another annual report. Form 8027, Employer’s Annual Information Return of Tip Income and Allocated Tips, discloses receipts and tips.

What’s the tip tax credit?

Suppose you’re an employer with tipped workers providing food and beverages. In that case, you may qualify for a valuable federal tax credit involving the Social Security and Medicare taxes you pay on employees’ tip income.

How should employers proceed?

Running a business with tipped employees involves more than just providing good service. It requires careful adherence to wage and hour laws, thorough recordkeeping, accurate reporting and an awareness of changing requirements. While President Trump’s pledge to end taxes on tips hasn’t yet materialized into law, stay alert for potential changes. In the meantime, continue meeting all current requirements to ensure compliance. Contact us for guidance about your situation.

by Zak Barbagallo

On developing an effective IT modernization strategy

On developing an effective IT modernization strategy

Information technology (IT) is constantly evolving. As the owner of a small to midsize business, you’ve probably been told this so often that you’re tired of hearing it. Yet technology’s ceaseless march into the future continues and, apparently, many companies aren’t so sure they can keep up.

In October of last year, IT infrastructure services provider Kyndryl released its 2024 Kyndryl Readiness Report. It disclosed the results of a survey of 3,200 senior decision-makers across 25 industries in 18 global markets, including the United States. The survey found that, though 90% of respondents describe their IT infrastructures as “best in class,” only 39% believe their infrastructures are ready to manage future risks.

A tricky necessity

The concept and challenge of keeping business technology current is called “IT modernization.” And to be clear, the term doesn’t refer only to IT infrastructure — which includes your hardware, software, internal networks, cloud services and cybersecurity measures. It also refers to your company’s IT policies and procedures.

To stay competitive in most industries today, some more than others, you’ve got to modernize everything continuously. But here’s the tricky part: You have to approach IT modernization carefully and cost-consciously. Otherwise, you could wind up throwing money at the problem, severely straining your cash flow and even putting the business at financial risk.

4 tips for getting it right

So, how can you develop an effective IT modernization strategy? Here are four tips to consider:

1. Begin with an IT audit. Many small to midsize businesses develop their technology improvisationally. As a result, they may not be fully aware of everything they have or are doing. If you really want to succeed at IT modernization, a logical first step is to conduct a formal, systematic review of your infrastructure, policies, procedures and usage. Only when you know what you’ve got can you determine what needs to be upgraded, replaced or eliminated.

2. Align modernization with strategic objectives. It’s all too easy to let IT modernization become a game of “keeping up with the Joneses.” You might learn of a competitor investing in a certain type of hardware or software and assume you’d better follow suit. However, your modernization moves must always follow in lockstep with your strategic goals. For each one, ensure you can clearly rationalize and project how it will bring about a desired business outcome. Never lose sight of return on investment.

3. Take a phased, pragmatic approach. Another mistake many small to midsize business owners make is feeling like they’ve fallen so far behind technologically that they must undertake a “big bang” and effectively recreate their IT infrastructures. This is a huge risk, not to mention a major expense. Generally, it’s better to modernize in carefully planned phases that will have the broadest positive impact. Prioritize mission-critical areas, such as core business applications and cybersecurity, and go from there.

4. Train and upskill your people. As funny as this may sound, IT modernization isn’t just about technology; it’s also about your users. If your employees don’t have the right skills, attitude and security-minded approach to technology, the most up-to-date systems in the world won’t do you much good. So, as you mindfully develop every aspect of your IT infrastructure, policies and procedures, pay close attention to how modernization initiatives will affect your people. Be prepared to invest in the training and upskilling needed to roll with the changes.

Tech support

The evolution of business technology will be ongoing — especially now that artificial intelligence has taken hold in nearly every sector and industry. The good news is that you don’t have to undertake IT modernization alone. Be sure to leverage external relationships with trusted consultants and software vendors. And don’t forget our firm — we can provide tailored cost analysis and financial insights to support your company’s technological evolution.

by Zak Barbagallo

Are your employees suffering from retirement plan leakage?

Are your employees suffering from retirement plan leakage?

Today’s small to midsize businesses are often urged to help employees improve their financial wellness. And for good reason: Financially struggling workers tend to have higher stress and anxiety levels. They may be less productive and more prone to errors. Some might even decide to commit fraud.

One hallmark of an employee facing serious financial trouble is “retirement plan leakage.” This term refers to the withdrawal of account funds before retirement age for reasons other than retirement. If your company sponsors a qualified plan, such as a 401(k), be sure you’re at least aware of this risk — and strongly consider taking steps to address it.

Potential dangers

Some business owners might say, “If my plan participants want to blow their retirement savings, that’s not my problem.” And there’s no denying that your employees are free to manage their finances any way they choose.

However, retirement plan leakage does raise potential dangers for your company. For starters, it may lead to higher plan expenses. Fees are often determined on a per-account or per-participant basis. When a plan loses funds to leakage, total assets and individual account sizes shrink, which hurts administrative efficiency and raises costs.

More broadly, as mentioned, employees taking pre-retirement withdrawals generally indicates they’re facing unusual financial challenges. This can lead to all the negative consequences we mentioned above — and others.

For example, workers who raid their accounts may be unable to retire when they reach retirement age. So, they might stick around longer but be less engaged, helpful and collaborative. Employees not near retirement age may take on second jobs or “side gigs” that distract them from their duties. And it’s unfortunately worth repeating: Motivation to commit fraud likely increases.

Mitigation measures

Perhaps the most important thing business owners can do to limit leakage is educate and remind employees about how pre-retirement withdrawals diminish their accounts and can delay their anticipated retirement dates. While you’re at it, provide broader financial education to help workers better manage living expenses, amass savings, and minimize or avoid the need for early withdrawals.

In addition, one recent and relevant development to keep in mind is the introduction of “pension-linked” emergency savings accounts (PLESAs) under the SECURE 2.0 law. Employers that sponsor certain defined contribution plans, including 401(k)s, can offer these accounts to employees who aren’t highly compensated per the IRS definition. Additional rules and limits apply, but PLESAs can serve as “firewalls” to protect participants from having to raid their retirement accounts when crises happen.

Some companies launch their own emergency loan programs, with funds repayable through payroll deductions. Others have revised their plan designs to reduce the number of situations in which participants can take out hardship withdrawals or loans.

Pernicious problem

It’s probably impossible to eliminate leakage from every one of your participants’ accounts. However, awareness — both on your part and those participants’ — is critical to limiting the damage that this pernicious problem can cause. We can help you identify and evaluate all the costs associated with your qualified retirement plan, as well as other fringe benefits you sponsor.

by Zak Barbagallo

5 steps to creating a pay transparency strategy

5 steps to creating a pay transparency strategy

Today’s job seekers and employees have grown accustomed to having an incredible amount of information at their fingertips. As a result, many businesses find that failing to adequately disclose certain things negatively impacts their relationships with these parties.

Take pay transparency, for example. This is the practice, or lack thereof, of a company openly sharing its compensation philosophy, policies and procedures with job candidates, employees and even the public. It typically means disclosing pay ranges or rates for specific positions, as well as clearly explaining how raises, bonuses and commissions are determined.

You’re not alone if your business has yet to formalize or articulate its pay transparency strategy. In its 2024 Global Pay Transparency Report, released in January of this year, global consultancy Mercer reported that only 19% of U.S. companies have a pay transparency strategy. Here are five general steps to creating one:

1. Conduct a payroll audit. Over time, your company may have developed a relatively complex compensation structure and payroll system. By meticulously evaluating and identifying all related expenditures under a formal audit, you can determine what information you need to share and which data points should remain confidential.

You may also catch inconsistencies and disparities that need to be addressed. Ultimately, an audit can provide the raw data you need to understand whether and how your company’s compensation aligns with the roles and responsibilities of each position.

2. Define or refine compensation criteria. To be transparent about pay, your business needs clear and consistent criteria for how it arrived — and will arrive — at compensation-related decisions. If such criteria are already in place, you may need to refine the language used to describe them. Again, your objective is to clearly explain to job candidates and employees how your company makes pay decisions so you can reduce or eliminate any perception of bias or unfairness.

3. Develop a communications “substrategy.” Under your broader pay transparency strategy, your company must have a comprehensive substrategy for communicating about compensation with job candidates, employees and, if you so choose, the public. There are many ways to go about this, and the details will depend on your company’s size, industry, mission and other factors. However, common aspects of a communications substrategy include:

• Providing written guidelines explaining your compensation philosophy and structure,
• Supplementing those guidelines with an internal FAQs document,
• Holding companywide or department-specific Q&A sessions, and
• Using digital platforms to share updates and issue reminders.

4. Train and rely on supervisors. Your people managers must be the frontline champions and communicators of your pay transparency strategy. Unfortunately, many companies struggle with this. In the aforementioned Mercer report, 37% of U.S. companies identified managers’ inability to explain compensation programs as their biggest challenge in this area.

Naturally, it all begins with training. Once you’ve defined or refined your compensation criteria and developed a communications substrategy, invest the time and resources into educating supervisors (and higher-level managers) about them. These individuals need to become experts who can discuss your business’s compensation philosophy, policies, procedures and decisions. And it’s critical that their messaging be accurate and consistent to prevent misunderstandings and misinformation.

5. Get input from professional advisors. Before you roll out a formal pay transparency strategy, ask for input from external parties. Doing so is especially important for small businesses that may have only a few voices involved in the planning process.

For example, a qualified employment attorney can help ensure your strategy is legally compliant and limit your potential exposure to lawsuits. And don’t forget us — we’d be happy to assist you in conducting a payroll audit, identifying all compensation-related expenses and aligning your strategy with your business objectives.

by Zak Barbagallo