No, the IRS is not changing tip reporting requirements to crack down on waiters

Since the passage of the Inflation Reduction Act, which included billions in new funding for the IRS, some people have raised concerns about whether it could be used to increase audits on workers.

One article published by Fox News recently claimed that the IRS was coming after workers in another way: by “cracking down” on the reporting of tips by waiters and other service professionals.

The article points to a proposal called the Service Industry Tip Compliance Agreement (SITCA), suggesting it could change tip reporting requirements or increase audits on workers.

THE QUESTION

Is the IRS changing tip reporting requirements to target service workers?

THE SOURCES

• IRS Notice 2023-13, Service Industry Tip Compliance Agreement Program
• U.S. Department of Treasury
• Internal Revenue Service
• Joint Committee on Taxation

THE ANSWER

No, the IRS is not changing tip reporting requirements to target service workers. The government is not proposing any changes to the legal requirements for tip reporting. 

The IRS is currently requesting comment on a proposed logistical update to a voluntary program where some businesses agree to report tips in certain ways in order to avoid audits.

WHAT WE FOUND

In many states, employers are allowed to pay tipped employees such as restaurant servers less than minimum wage, meaning a majority of their income often comes from tips. Any change to how tips are reported and taxed could therefore have a significant effect on how much pay these workers take home.

Tips have been considered taxable income for decades, and federal law requires that they be reported as such. There is no current proposal to change that. 

What is being proposed is a change to some of the logistics of how certain businesses and employees report that income. The proposal is also still in the early stages, with the IRS currently only seeking comment from businesses and workers about how they’d prefer to handle those logistics.

So what could change?

In the 1990s, the IRS realized some service workers and their employers were having difficulty complying with tip reporting requirements on their own, resulting in unreported income and audits. So the agency created a series of programs that businesses could opt into that were designed to improve compliance with tip reporting laws. Businesses could choose to enter any one of these programs and in return the IRS would agree not to audit the business for its tip reporting practices.

The first program is called TRDA – Tip Rate Determination Agreement. Under this program, employers use a formula to calculate what their employees should ordinarily be making in tips. Then, as long as the tips reported to the employer and the IRS meet or exceed that calculated rate, the IRS won’t audit businesses or their workers. If an employee’s reported tips fall below that threshold, the employer has to let the IRS know, and they can then audit that employee.

The second program is called TRAC – Tip Reporting Alternative Commitment. Under this program, there’s no calculated rate. Instead, employers are required to hold regular training sessions where they make sure their employees know what the law requires when it comes to tip reporting. The employers also have to give their workers statements showing how much the employer estimates the worker should’ve received in tips that month. Since with TRAC there’s no minimum rate to signal possible underreporting, the IRS instead might audit an employee if their reporting varies significantly from what was reported by their employer.

The third program is called emTRAC – Employer Tip Reporting Alternative Commitment. It’s similar to TRAC, except it lets employers design their own trainings and statements rather than only the ones provided by the IRS.

Under all three programs, the IRS may decide to audit an employee or employer if they receive information that either isn’t following the rules of the agreement or properly reporting income, and may decide to remove the business from the program, opening them up to more regular audits.

Interest in developing a new program dates back to 2013, when the IRS announced it would work with businesses to develop an updated system that reflects changes in technology and the economy. By 2023 they had developed a proposal that would replace the old programs: SITCA –  Service Industry Tip Compliance Agreement. The IRS is currently seeking comment on that proposal.

Under SITCA, the IRS would estimate the total tips any given business likely should’ve processed over the course of a year. It does this by first compiling the raw data of tips paid through the business’s point-of-sale system (such as a cash register or tablet), and then using a formula to estimate cash tips. If the business reports less than that calculated number, they’re automatically removed from the program and can be susceptible to audits. As with existing programs, if an employee’s reported income varies widely from what is expected, they may be audited.

But SITCA would make no changes to what employees are required to report; that has always been the same. It also would provide no new mechanism of enforcement and would not encourage more frequent audits. SITCA essentially would only change what forms some businesses need to fill out to assure the IRS they’re complying with reporting requirements. And again, business participation would remain voluntary.

The IRS is taking comments on the proposal until May 7, 2023.