Form 8846: FICA tip credit for employers

Susan Turcotte

• 05.09.24 • 5 min read

If you own a bar, restaurant, or food delivery service, you may have encountered the challenge of managing and reporting your employees' tips.

Even though tip income is not part of the wages you pay your workers for their regular job duties, it is still considered taxable. As an employer, you're responsible for paying income taxes on your employees' earnings, including their tips.

Federal Insurance Contribution Act (FICA) tip credit is designed to help small businesses in the food and beverage industries handle tip taxes. It allows employers to take credit for Social Security and Medicare taxes already paid on employees' tips.

This article provides a comprehensive guide for hospitality businesses on understanding and claiming the FICA tip credit on Form 8846.

What is the FICA tip credit?

The FICA tip credit helps food and beverage employers get back some of the FICA taxes they pay on tips. It offers the opportunity for substantial tax reductions and encourages precise tip documentation.

The Internal Revenue Service (IRS) titles this credit as credit for employer Social Security and Medicare taxes paid on certain employee tips. Small businesses can claim it with Form 8846.

How to qualify for the FICA tip credit

To qualify for the FICA tip credit, employers must work in industries where tipping is common, like restaurants, bars, and other venues serving food and beverages. 

The tax credit applies to Social Security and Medicare taxes paid on tips exceeding a specific threshold and reported by employees. Employees must receive them as a part of their regular compensation.

Qualified tips and taxes

Tips 

Qualified tips are those that employees receive as part of their compensation, which are subject to Social Security and Medicare taxes. For instance, tips received by waitstaff, bartenders, and similar employees in a restaurant setting would typically qualify. These tips must be reported to the employer. Only tips that exceed the IRS's minimum reporting threshold are eligible.

Taxes

FICA taxes are paid by both employees and employers on gross wages, which include tips. The credit covers the employer's portion of Social Security and Medicare taxes:

• Social Security: Employers pay 6.2% of employees' wages up to the Social Security wage base limit.
• Medicare: Employers pay 1.45% of employees' wages, with no wage base limit.

These taxes are part of the total payroll taxes that employers must handle. The credit helps lessen the financial burden of these taxes.

How to calculate the FICA tip credit

The credit generally equals the employer's Social Security and Medicare taxes paid on employee tips.

Use these steps to calculate the FICA tip credit: 

1. Calculate the total tips reported by an employee.
2. Calculate total wages paid (excluding tips).
3. Calculate the total hours worked by an employee.
4. Apply a minimum wage adjustment. The adjustment accounts for the tips used to meet the federal minimum wage of $7.25 per hour. 
5. Apply your portion of Social Security tax (6.2%) and Medicare taxes (1.45%) for tips above minimum wage.
6. Calculate the eligible FICA tip tax credit.

Here's an example of the credit calculation:

Total tips: $5,000
Wages excluding tips: $3,000
Total hours worked by an employee: 400
Minimum wage adjustment: 400 hours × $7.25/hour = $2,900. Actual wages paid: $3,000
Tips used to meet minimum wage: $2,900 - $3,000 = -$100 (no tips used for minimum wage)
So, the entire $5,000 in tips is eligible for the FICA tip credit.

FICA taxes on tips above the minimum wage:
Social Security taxes: $5,000 × 6.2% = $310
Medicare taxes: $5,000 × 1.45% = $72.50

Total FICA taxes: $310 + $72.50 = $382.50
FICA tip tax credit: $382.50

The tip credit is nonrefundable, meaning it cannot reduce your tax liability below zero. However, you can carry any unused credit forward into future years.

FICA tax credit calculations appear easy, but mistakes can alert the IRS, resulting in repayment or an audit. Consult a tax professional to ensure accurate reporting and compliance with tax requirements.

How to claim the FICA tip credit

To claim the credit, eligible businesses must use Form 8846, Credit for Employer Social Security and Medicare Taxes Paid on Certain Employee Tips. 

This form provides a structured way for employers to report the amount of Social Security and Medicare taxes paid on qualified tips and calculate the corresponding credit.

To claim the credit, follow these steps:

1. Complete Form 8846: Fill out all required sections, including details about the employer, the amount of Social Security and Medicare taxes paid, and the total credit claimed.
2. Attach Form 8846 to your tax return: Submit the completed form along with your business tax return.
3. Provide required documentation: Include supporting documents verifying the tips received and the taxes paid.

The credit can be reported directly on line 4f in Part III of Form 3800, General Business Credit for entities other than S corporations or partnerships. A partnership or an S corporation carries the credit to Schedule K. 

You can claim or elect not to claim the credit within three years from the due date of your return on either your original return or an amended one.

To get personalized advice on the FICA tip credit, talk to a TFX tax professional. Our tax experts can help you calculate your FICA tax credit and other employer tax credits to help you get the most benefits.

Disclaimer: This article is for informational purposes only and does not constitute legal or tax advice. Always consult with a tax professional regarding your specific case.