Restaurant Owners: Claim your credit for payroll taxes paid on employee tip income

Restaurants are required to report tip income earned by their employees.  This tip income is treated as wages, so both the employer and employee must may social security and medicare tax on these amounts. However, the employer can get most of their payroll taxes back through a credit claimed on Form 8846.

The credit calculation is fairly straightforward.  It is 7.65% of “eligible tips”.  Eligible  tips are tips that exceed a base hourly rate of $5.15 per hour. If you pay your tipped employees greater than $5.15 per hour, all the tips are eligible.  If not, the tips required to increase the employee’s pay to $5.15 per hour are ineligible.

For even small restaurants this credit can be very significant. C-Corporations claim the credit as part of the General Business Credit.  Flow-through entities (partnerships and S-Corps) calculate the credit on their return and then report the credit to the owners on schedule K-1.  The owners then get the benefit of the credit on their personal returns.

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New Overtime Rules from the Department of Labor

Anytime you deal with Department of Labor (DOL) regulations you can be assured of facing an overwhelmingly complex set of rules.  The new overtime rules effective December 1, 2016 are no exception, but there are some very basic things that all small and even micro-businesses should understand.

This is a complex topic, so I’m going to provide a list of must-knows up front so you can decide if you want to read further for more information. I want my micro-business readers to take away that:

1)  You are likely required to follow the overtime rules from the department of labor.

2) Determining an employee is exempt from overtime is far more complicated than simply paying them a salary.

3) Any employee with a salary less than $47,476 (starting December 1, 2016) must be paid overtime.

4) It’s very important to pay overtime when it is required.  An employee cannot “opt out” of overtime.

5) One disgruntled employee with a claim for unpaid overtime can trigger a DOL audit, so be careful to comply with the rules.

Now for the details . . .

Don’t assume you are exempt just because your gross revenue is less than $500,000.  While it’s true companies with sales greater than $500,000 are certainly governed by the DOL rules, most smaller companies are as well.  This is because any size company that is engaged in interstate business is subject to the rules.  It is extremely difficult to not be engaged in interstate business in today’s digital age. Is your web designer or hosting company located in a different state? Is your credit card processor located in another state? Any of these kind of transactions can be used by DOL to assert the business is subject to the new overtime regulations.  My advice for micro-businesses is to assume that they are subject to the DOL rules.

Today’s focus is on how employees are classified as either “Exempt” or “Nonexempt” under the new rules.  Exempt employees do not have to receive overtime pay whereas Nonexempt employees must be compensated time-and-a-half for any hours over 40 per week. What constitutes a work-week can be determined by the employer, but must be applied consistently for all employees and time periods.  Nonexempt employees cannot “opt out” of overtime. In other words, they cannot agree to not receive time and a half.  Also, hours cannot be shifted from one week to the next in order to avoid overtime.  If an Nonexempt employee works 45 hours in one week and 35 hours the next week, they must be paid time and a half for the 5 hours of overtime in week one.

Some people like to use the phrase “salaried employee” interchangeably with Exempt Employee , but this can cause great confusion. While all Exempt Employees must be salaried (with very few exceptions), not all salaried employees are exempt. To be exempt an employee usually must meet two tests:

First, the employee must not be a “blue collar” worker, but rather involved in executive, administrative, professional services, outside sales, or computers.  This classification is not nearly as straight forward as it might seem.  For example, employees strictly providing secretarial-type services and not involved in administrative decision making are NOT considered administrative and thus cannot be exempt.

Second, the employee must be paid a weekly salary of at least $913 per week ($47,476 annually) to be exempt from overtime.  So, an otherwise Exempt Employee being paid a $45,000 annual salary must be compensated for overtime at a rate of $32.45 per hour ($45,000 / 2,080 hours X 150%).  If the employee works considerable overtime, it may be cheaper to increase their salary to $48,000 thus making them exempt (if they meet the first requirement).

If there is any question as to whether a salaried employee might be non-exempt (and thus qualified for overtime) it is vital the employer keep a record of the time worked by this employee.  This might be very distasteful to the salaried worker, but is vital for the employer’s protection.  In the case of a DOL audit where the employer doesn’t have sufficient time records, the DOL will likely believe whatever the employee tells them they worked.  It seems unfair, but the employer has an obligation to have a record of actual time worked.

Wow, this is complicated and we’re barely scratching the surface!

This post has probably generated more questions than answer.  Please email me with your questions and I’ll try to post additional blogs on this topic with more explanations.  This is a huge topic, so it may take a while to cover everything!

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Schoolteacher’s deduction now includes professional development

This post strays a bit from my focus on small businesses, but there are so many schoolteachers out there that have to spend their own money on school supplies that I think it is worthwhile.  Most employees can only deduct employment related expenses that exceed 2% of their income, and then the deduction is only an itemized deduction which may or may not actually provide a tax benefit.  However, since 2002 schoolteachers (K-12) receive a special “for AGI” deduction of up to $250 for their classroom expenses.  The “for AGI” deduction means their gross income is directly offset and the taxpayer does not need to itemize their deductions (file schedule A) to receive the benefit.

New for 2016, in addition to classroom expenses, schoolteachers can now deduct the cost of professional development courses.  Unfortunately, the maximum deduction is still only $250.  However, the $250 is now indexed for inflation so it will slowly increase for years after 2016.

As always, feel free to email me at with questions, comments or suggestions for future posts!

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Home Office Deduction

The home office deduction can be a valuable tax benefit for micro- and small-businesses.  This deduction is highly scrutinized by the IRS and is often considered a “Red Flag” that increases the chances of your return being looked at by the IRS.  That being said, I always encourage taxpayers that legitimately qualify for the deduction to claim it. This is a deduction you really want to be sure about so here is some help.

First, regardless of the purpose of the home office, the space must be used EXCLUSIVELY for business.  This means that a guest room that doubles as a home office does not qualify.  If your kids are allowed to store toys and play in the room, it is not a home office.  This is the end of the road for many taxpayers who do not wish to commit a space in their home exclusively to business.  I don’t blame you for wanting to enjoy as much of your home as possible, but you don’t qualify for the home office deduction. (There are exceptions to the EXCLUSIVELY rule for home day care and the storage of merchandise by retailers/wholesalers.)

Second, the space in your home must be used either a) to meet with clients, or b) as the principal place of business.  Meeting with clients is pretty self explanatory, but what constitutes a principal place of business is a little harder. Perhaps you manufacture and sell crafts online.  Certainly the space used to build the crafts is a principal place of business.  However, a space used to perform administrative functions of the business (when no other office is available) is considered a “principal place of business” and allowed as a home office.  This is the way many taxpayers qualify.  For example, a salesman that spends his day visiting clients might return home and do all his paperwork in his home office.  This use qualifies for a home office deduction.

Once you qualify for the deduction, how do you calculate the amount? Historically, all taxpayers were required to track all of their home expenses (property taxes, mortgage interest, insurance, utilities, depreciation, etc.) and then multiply that times the percentage of the home used for business.  The total home office expense cannot exceed your net income and when it does a portion of the expense is disallowed. Determining exactly which type of expense is disallowed and how it is treated in the future is quite complicated and to detailed for this blog.

Thankfully, in 2013 things became much easier for home offices of 300 square feet or less.  For these taxpayers, they can simply deduct $5 per square foot and that’s it!  There is no need to track any expenses!  However, any home office expense in excess of net income is disallowed and not carried over to the next year.  Taxpayers with larger home offices still must follow the old rules and track all the actual expenses.

The Home Office deduction can be valuable and shouldn’t be ignored just because it is a red flag.  Most taxpayers can determine for themselves if they qualify.  Do you use a portion of your home EXCLUSIVELY to meet clients or conduct business (including administrative work)?  If so, I suggest hiring a tax professional to help determine the value of the deduction and exactly how the deduction should be claimed on your return (this can vary based on whether your business is a sole proprietorship, S-Corp, or partnership.)

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Domestic Production Activities Deduction for Construction, Architecture, and Engineering Firms

The tax code allows what I like to call a “phantom deduction” for companies that produce   tangible property within the United States. I call it a phantom deduction because it appears out of thin air!  It’s not like a typical deduction that results from spending money in a way that is tax deductible.  Anyway, unless you love taxes and tax theory, all you really need to know at this point is that there is a tax benefit available to U.S. producers.

Obviously, this benefit is available to typical manufacturers such as car manufacturers, etc.  What fewer people realize is that this benefit is also available for the manufacture and engineering of real property (like roads and buildings).  This means activities such as engineering, architecture, and construction related to real property can receive the special deduction!

What many people are surprised (and delighted) to discover is that these activities don’t have to be related to brand new real property; they only have to be related to a substantial improvement of real property!  So, this is where Micro-Businesses can often benefit.  Small carpentry, plumbing, or electrical firms can qualify for activities related to remodeling buildings!  The only caveat is that these firms must both make a profit for the year and pay wages.

For more details, I’ve attached a one page brochure I made for our firm, Small Business Accounting & Tax, Inc.


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