Reporting Tip Income to the IRS
Information About Tips & Taxes
If you receive tips as part of your job, it’s important to realize that all tips are considered income and are subject to Federal income tax.
The IRS requires you to report all tips that you receive directly, all charged tips paid to you by your employer, as well as your share of any tips you receive under a tip-pooling arrangement.
While more and more tips are being handled by employers through credit card charges, sometimes customers will still tip in cash. Each employer has their own rules regarding how tips are shared among employees. In some establishments, the tips are pooled together and then distributed evenly to the employees. In other cases, the individual employees are allowed to keep their tips for themselves.
Whether or not your tip money passes through your employer’s hands, it is still considered taxable income and must be reported to the IRS. You must also report your tip income to your employer so they can properly withhold taxes and report your earnings to the Social Security Administration (SSA).
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Reporting Your Tip Income
According to the IRS, you must do 3 things in order to correctly report your tip income:
1. Keep a daily tip record
2. Report tips to your employer
3. Report all your tips on your income tax return
Maintaining a daily tip record will help you stay on track and in compliance with IRS tax requirements. This can also serve as proof of your tip income, in case your tax return is ever questioned.
Reporting Tips to Your Employer
You are required to report all tips to your employer. Based on what you report, your employer will withhold the proper amount of tax for Social Security, Medicare, Railroad Retirement, and income taxes. In addition to making sure your tax liability is computed correctly, this allows the proper wages to be reported to the Social Security Administration (SSA), which will affect your benefits when you retire or if you become disabled.
Any cash, check, debit card, and credit card tips that you receive must be reported to your employer on a monthly basis. However, if your total tips from a particular job are less than $20 for any 1 month, you do not have to report your tips for that month to that employer.
To report your tip income, use Form 4070 (Employee’s Report of Tips to Employer) or create a similar written statement. This report is due by the 10th day of the month following the month your tips are received. (For example, your tip report for July would be due on August 10.) If you do not use Form 4070, you must provide a signed statement that contains the following information:
• The employee’s name, address, and Social Security Number (SSN)
• The employer’s name, address, and business name
• The month/period the report covers
• The total tips received during that period
Make sure to sign and date the statement, and keep a copy for your own records.
Note that your tip report/statement cannot cover a period that is longer than 1 month. However, your employer may require you to report your tips more than once a moth.
Penalty for Not Reporting Tips
If you do not report your tip income as required, the IRS will consider it as a form of tax evasion. If you fail to report tips to your employer, you could face a penalty equal to 50% of the Social Security, Medicare, or Railroad Retirement taxes you owe on the unreported tips. This penalty is in addition to the regular taxes you owe.
If you have reasonable cause for not reporting the tips to your employer, you may be able to avoid this penalty. To show reasonable cause, you must attach a statement to your tax return explaining why you didn’t report the tips.
Reporting Tips on Your Tax Return
The tips you report to your employer will appear in Box 1 of your Form W-2 (Wage and Tax Statement). Any tips that you did not report to your employer should be added to the amount in Box 1. This includes both cash and noncash tips. If you received any noncash tips (such as tickets or passes to an event), you must report their value and add that to the amount in Box 1.
You must include your tips with your wages on your income tax return – Line 7 of Form 1040; Line 7 of Form 1040A; Line 1 of Form 1040EZ; Line 8 of Form 1040NR; or Line 3 of Form 1040NR-EZ.
If you are self-employed and you receive tips, you should report your tips as income on Schedule C (Profit or Loss From Business) of Form 1040.
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What Are Allocated Tips?
The term “allocated tips” refers to tips that your employer assigns to you in addition to the tips you reported to your employer for the year.
The IRS knows that many employees underreport their tips. To prevent this, the IRS requires employers to ensure that the total tip income reported by employees is equal to at least 8% of their sales receipts. If the total reported is less than 8%, the employer must allocate the difference between the actual tips reported and 8% of sales.
For example, let’s say you work at a restaurant that must allocate tips to employees. You will only receive allocated tips if the total tips that you report to your employer are less than 8% of your share of the total food and beverage sales. You can ask your employer for more information about the exact allocation method they use.
Allocated tips are not included with your wages and reported tips in Box 1 of Form W-2. If your employer allocated tips to you, they will appear separately in Box 8.
In most cases, you must report your allocated tips as wages on your tax return. However, if you kept detailed tip records throughout the year that show you received less tips than the allocated amount, you may not need to report the allocated tips on your tax return.
Allocated tips are reported to the IRS by employers, so be prepared for questions (and possibly a tax audit) if you do not include them in your income. If the IRS disagrees with your records or finds them inadequate, you will owe the taxes as well as interest charges.
For more information about tips and taxes, refer to IRS Publication 531 (Reporting Tip Income) and Publication 1244 (Employee’s Daily Record of Tips and Report to Employer).