You might be eligible for a credit related to the Social Security and Medicare taxes (FICA taxes) you pay on your employees’ cash tips.

This credit applies to tips your employees receive from customers for food or beverages, regardless of whether they are consumed on or off the premises. Although customers pay these tips directly, for FICA tax purposes, they are considered as though you paid them to your employees. Your employees must report their tips to you, and you are responsible for withholding and remitting their share of FICA taxes as well as paying the employer’s portion.

The credit is part of the general business credit and equals the employer’s share of FICA taxes on tip income that exceeds the amount needed to bring your employees’ wages up to $5.15 per hour, which was the minimum wage as of January 1, 2007. If the state where your business operates has a higher minimum wage rate, the higher wage applies. Essentially, no credit is available if the tip income only raises the employee’s wage to the $5.15 per hour level, calculated monthly. If you pay your employees at least $5.15 per hour (excluding tips), you don’t need to worry about this calculation.

For example, consider a waiter at ABC Restaurant who is paid $2 per hour plus tips. If this waiter works 160 hours in a month, earning $320 in hourly wages and $2,000 in tips, the tips are reported to the employer.

Since the waiter’s $2 hourly rate is $3.15 below the $5.15 minimum wage (as of January 1, 2007), over the 160 hours worked, the wage is short by $504 (160 hours × $3.15). Thus, the first $504 of tips only brings the waiter up to the minimum wage, and the remaining $1,496 ($2,000 − $504) qualifies for the credit. The employer’s FICA tax rate is 7.65%, so the credit amounts to $114.44 for the month: $1,496 × 7.65%.

While the employer’s share of FICA taxes is usually deductible, the FICA taxes related to tip income for this credit cannot be deducted to avoid double benefits. However, you can choose not to take the credit if you prefer to claim the deduction instead.

Disclaimer: The information provided here is for general informational purposes only and should not be construed as legal or financial advice. Always consult with a qualified tax professional or advisor to discuss your specific situation and obtain advice tailored to your individual needs. The accuracy, completeness, and timeliness of the information cannot be guaranteed, and you should rely on professional guidance when making tax-related decisions.