SECTION 2. BACKGROUND

Sections 3101 and 3111 impose Federal Insurance Contributions Act (FICA) taxes on employees and employers, respectively, equal to a percentage of the wages received by an individual with respect to employment. FICA taxes consist of two separate taxes, the Old Age, Survivors, and Disability Insurance (social security) tax and the Hospital Insurance (Medicare) tax. Sections 3101(a) and 3101(b) impose the employee portions of social security tax and the Medicare tax, respectively. Sections 3111(a) and 3111(b) impose the

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employer portions of the social security tax and the Medicare tax, respectively. All wages are subject to Medicare tax; however, the amount of wages subject to social security tax is limited by an annual contribution and benefit base.

Section 3102(c) provides that the employer shall withhold the employee share of FICA taxes on the reported tips from the wages of the employee (generally excluding tips) or from other funds made available by the employee for this purpose.

Section 3121(a) defines “wages,” for FICA tax purposes, as all remuneration for employment, with certain exceptions. Section 3121(a)(12)(A) excludes, from the definition of wages, tips paid in any medium other than cash; section 3121(a) (12)(B) excludes cash tips received by an employee in any calendar month in the course of the employee’s employment by an employer unless the amount of the cash tips is $20 or more.

Under section 3121(q), tips received by an employee in the course of the employee’s employment are considered remuneration for that employment and are deemed to have been paid by the employer for purposes of the employer portion of FICA taxes imposed by sections 3111(a) and (b). Generally, the remuneration is deemed to be paid when a written statement including the tips is furnished to the employer by the employee pursuant to section 6053(a), as discussed below.

Section 3111 imposes the employer portion of Medicare tax on the total amount of cash tips received by the employee. It also imposes the employer portion of social security tax on the amount of cash tips received by the employee up to (when combined with all other wages) the contribution and benefit base as determined under section 3121(a)(1). Special rules apply if the employee did not furnish the employer with the statement required by section 6053(a) or furnished an incomplete or otherwise inaccurate statement. In those cases, the employer’s liability in connection with taxes imposed by section 3111 with respect to tips is determined based on the amount of remuneration deemed to have been paid on the date on which notice and demand is made to the employer by the IRS. Section 3121(q).

Section 6053(a) requires every employee who, in the course of the employ

ee’s employment by an employer, receives in any calendar month tips that are wages (as defined in section 3121(a) for FICA tax purposes or section 3401(a) for income tax withholding purposes) to report all those tips in one or more written statements furnished to the employer on or before the tenth day of the following month. The employee is to furnish the statements in the form and manner prescribed by the IRS. See § 31.6053-1(b) of the Employment Tax Regulations.

Under § 31.6053-1(b) the statement may be provided on paper or transmitted electronically and must be signed by the employee. The statement must disclose the name, address, and social security number of the employee and the name and address of the employer, and must specify the date of the report and the period that the report covers.

Section 6053(c)(3) states that employers of large food or beverage establishments must allocate tips among employees performing services who customarily receive tip income if the total tips reported are below eight percent of gross receipts.

The factors used to determine whether payments constitute tips or service charges (extra amounts automatically added to a bill for services rendered) are set forth in Rev. Rul. 2012-18, 2012-26 I.R.B. 1032. Q&A-1 of Rev. Rul. 2012-18 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 the surrounding facts and circumstances must be considered. Q&A-1 also provides an example illustrating that a fixed charge added to all bills for parties of six or more customers at a restaurant, which the restaurant distributes to waiters and bussers, is not a tip but a service charge. To the extent any portion of a service charge paid by a customer is distributed to an employee, it is included in the employee’s wages for FICA tax purposes and not separately required to be reported

as tips by the employee. See also Rev. Rul. 59-252, 1959-2 C.B. 215.