The IRS wants to tax restaurants, not servers, on the service fees imposed on large parties.
Glad it was Applebee’s and not your restaurant that got caught up in that mandatory service charge flap and subsequent employee firing that made the national news? Don’t gloat too much. A recent Internal Revenue Service ruling could have many operators rethinking how they handle automatic tips for large parties.
First, the Applebee’s incident in brief: Pastor hosting party of 10 in St. Louis unit declines to pay 18 percent automatic service charge, crosses it off check and writes “I give God 10% why do you get 18?” on check. Applebee’s server posts picture of check on Reddit, adds snarky comment (“My mistake sir, I’m sure Jesus will pay for my rent and groceries”). Post goes viral, server gets fired, firestorm of bad publicity ensues for all concerned.
Here’s a statement Applebee’s made about the incident:
“We understand the concern that many people have raised regarding the situation at an Applebee’s restaurant in St. Louis and are grateful for the opportunity to respond.
“As a company that relies on literally hundreds of thousands of incredibly hard-working team members, we can assure you that we and our franchisees value and support them and their efforts. However, this unfortunate situation has nothing to do with work. The team member involved did not actually wait on the party and had no dealings with the guest.
“Regrettably, and without the restaurant’s knowledge, she took it upon herself to take a guest’s receipt, with the name clearly visible, and post it online with her own commentary). That is a clear invasion of the guest’s privacy, and also against the franchisee’s company policy that the team member was provided when hired. We simply cannot accept behavior that compromises the safety and privacy our guests have every right to expect and deserve.
“The server who waited on the party is still employed by Applebee’s and not involved in this matter. Please note that we are also not excusing the guest’s behavior in this matter and the comment she wrote on the receipt, which is offensive to us and to all our hard-working team members.
“To be clear, the 18% gratuity added to large party tickets was paid by the guest’s party. This is a very regrettable situation, and we wish it had never happened. We hope this provides you with some additional insight, and appreciate the chance to explain.”
Case closed, we hope. But it may cause a few restaurant operators and a lot of restaurant customers to rethink their views about restaurant-imposed service fees for large parties.
The Internal Revenue Service has already made its decision on a different aspect of the tip-versus-service charge issue. Last summer the IRS issued Revenue Ruling 2012-18. It spells out what is and what isn’t a service charge or a tip–the difference being that restaurant operators have to pay FICA on service charges but don’t on tips.
Be sure to take a close look at the new rules, which took effect on Jan. 1, as you consider how to handle service charges for large parties at your restaurant.
Here’s the relevant Q&A on the topic from the IRS ruling:
“Q1. Is the characterization of a payment as a ‘tip’ by the employer determinative for FICA tax purposes under section 3121 of the Code?
“A1. No. The employer’s characterization of a payment as a ‘tip’ is not determinative. For example, an employer may characterize a payment as a tip, when in fact the payment is a service charge. The criteria of Rev. Rul. 59-252, 1959-2 C.B. 215, should be applied to determine whether a payment made in the course of employment is a tip or non-tip wages under section 3121 of the Code. The revenue ruling provides that the absence of any of the following factors creates a doubt as to whether a payment is a tip and indicates that the payment may be a service charge: (1) the payment must be made free from compulsion; (2) the customer must have the unrestricted right to determine the amount; (3) the payment should not be the subject of negotiation or dictated by employer policy; and (4) generally, the customer has the right to determine who receives the payment.
“All of the surrounding facts and circumstances must be considered. For example, Rev. Rul. 59-252 holds that the payment of a fixed charge imposed by a banquet hall that is distributed to the employees who render services (e.g., waiter, busser, and bartender) is a service charge and not a tip. Thus, to the extent any portion of a service charge paid by a customer is distributed to an employee it is wages for FICA tax purposes.”
You’ll probably want to talk over this change with your accountant, if you haven’t already. Several other payroll issues could arise in addition to the one we’re looking at here.
Automatic gratuities imposed on large parties have been a sweet deal for both restaurant operators and their employees for a long time. Let’s hope they remain so after this IRS ruling takes hold.
Marty Bombenger…Key West Restaurant Consulting  305.310.1982
