“Our goal is to create a fair, accurate system for reporting tip income while minimizing burden on taxpayers and business,” said former IRS Commissioner Charles Rossotti after the U.S. Supreme Court held in Fior D'Italia, Inc. v U.S., (536 U.S. 238 (2002) that the IRS can use estimates of tip income from restaurant employees to calculate the employer's share of FICA taxes on cash tips.
This added administrative burden is a hard hit for the restaurant industry and for its workers, many of whom depend on tips from customers to supplement their hourly income. According to Scott DeFile, executive vice-president of the National Restaurant Associations, “Ninety percent of salaried restaurant employees started their careers as hourly employees. Eighty percent of owners and managers started in entry level positions as well.”
For hourly wages, many restaurants pay the minimum tip wage of $2.13, which is the amount mandated under federal law by the Fair Labor Standards Act (FLSA). Although each state has varying regulations and standard of how this minimum wage is paid, the basic notion is that employees in the service industry are not making a fortune. For example, in Wisconsin $2.13 per hour may be paid to employees who are not yet 20 years old and who have been in employment status with a particular employer for 90 or fewer consecutive calendar days from the date of initial employment, while in Oklahoma, the basic minimum rate is $2.00 per hour for employers with fewer than 10 full-time employees at any one location who have gross annual sales of $100,000 or less.
The Internal Revenue Code provides that the IRS, “is authorized and required to make the inquiries, determinations, and assessments of all taxes … which have not been duly paid … .” 26 U.S.C. § 6201(a). Under Fior D’Italia the IRS can use a “reasonable estimate” of tips received by employees to calculate a restaurant’s share of FICA taxes. The IRS clearly has a motive for wanting tip income reported as tips potentially constitute billions of dollars of unreported each year. With this new ruling, the IRS will receive additional revenue from the increased withholding requirement.