The FICA FICA is a payroll tax paid to the federal government, consisting of Social Security and Medicare taxes. tip credit is an income tax credit claimed by employers in food and beverage industries to offset the cost of the employer FICA they pay on reported tips. It encourages employer reporting of tip income by providing an income tax credit based on the amount of payroll tax paid on employee tip income reported in excess of minimum wage.
Key Takeaways:
- The federal minimum wage of $5.15 must be used in the calculation, irrespective of the state minimum wage amount or the actual federal minimum wage at the time of the calculation.
- The FICA income tax deduction must be reduced by the amount of any FICA tip credit taken by the employer.
- The FICA tip credit is claimed on IRS Form 8846. Read our instructions for preparing Form 8846.
Eligibility for FICA Tip Credit
Employers pay FICA tax on employee wages, including tips. Even though tips are paid by customers, for payroll tax purposes, they are treated as paid by the employer. The employer must:
- Include tips on the employee’s W-2
- Withhold the employee’s portion of FICA and income tax from their paycheck—even if it results in a net check of zero
- Pay the employer’s portion of FICA on the tips
Qualifying Businesses
The FICA tip credit is reserved for businesses that furnish food or beverages and employ tipped employees. The food and beverages served at the business do not have to be consumed onsite for the establishment to be eligible for the credit.
Qualifying Tips
Employees are expected to report cash tips in excess of $20 per month to their employer, who should make timely tax deposits and reconcile the withholding on IRS Form 941 or 944. Service charges added to the customer’s bill and passed on to the employee are classified as wages and not tips, and only tips that result in total compensation greater than $5.15 per hour are eligible for the credit. Tips include allocated tips as calculated on Form 8027.
Wages Paid
The FICA tip credit calculation integrates the amount of wages paid by the employer with the minimum wage amount of $5.15 an hour. Even though the actual inflation-adjusted federal minimum wage amount may differ, the federal minimum wage used for purposes of this calculation is $5.15. This was the federal minimum wage in 2007, and the IRS has allowed businesses to continue to use that wage amount in the calculation to continue to maximize the benefit of the credit.
How to Calculate the FICA Tip Credit
If the employer pays an hourly wage of $5.15 per hour or more, the tip credit calculation involves a single step. You’ll simply need to multiply the amount of the employee’s tips for the period by 0.0765. This figure is the decimal form of the combined tax rate for Social Security and Medicare taxes (FICA).
To calculate the credit for employees with hourly wage earnings of less than $5.15, you’ll need the following information for each worker:
- Number of hours worked by the employee during the period
- Hourly wage paid to the employee
- Total tip income for the period for the employee
The calculation is performed as follows:
- Step 1: Calculate actual wages. Multiply the hours worked by the actual hourly wage paid by the employer.
- Step 2: Calculate total compensation. Add the tip income for the period to the actual wages calculated in Step 1.
- Step 3: Calculate hypothetical wages at the $5.15 minimum wage rate. Take the number of hours worked in the period and multiply it by $5.15.
- Step 4: Calculate tips in excess of the minimum wage. Subtract the hypothetical wage total from the sum of the wages and tip income for the period.
- Step 5: Calculate the credit amount. Multiply the amount of the excess tip income calculated in Step 2 by 0.0765.
Let’s look at this calculation using examples.
Example 1: FICA Tip Calculation on Wages Less Than $5.15 Minimum Wage
Tipper Jones is a part-time waitress at Ethical Edibles, a vegan restaurant in Honesty, Ohio. She worked 1,000 hours in 2024, for which Ethical Edibles paid her $4 an hour. She reported $10,000 in 2024 tip income.
The FICA tip credit claimed by Ethical Edibles based on Tipper’s 2024 reported tips is as follows:
CALCULATIONS | TOTALS | |
|---|---|---|
Step 1: Calculate actual wages | $4 × 1,000 hours | $4,000 |
Step 2: Calculate total compensation | $4,000 + $10,000 | $14,000 |
Step 3: Calculate hypothetical wages | $5.15 × 1,000 | $5,150 |
Step 4: Calculate tips in excess of minimum wage | $14,000 − $5,150 | $8,850 |
Step 5: Calculate the credit amount | $8,850 × 0.0765 | $677.03 |
Example 2: FICA Tip Calculation on Wages More Than $5.15 Minimum Wage
Now let’s assume that Ethical Edibles pays its employees $10 per hour. Since this wage is above the $5.15 federal minimum wage used to calculate the credit, the calculation is much simpler.
FICA tip credit: $10,000 × 0.0765 = $765
How to Claim the FICA Tip Credit
The FICA tip credit is claimed on IRS Form 8846. In any year that an employer takes the FICA tip credit, the employer must also adjust their FICA income tax deduction by the amount of the credit claimed.
If an employer has a $5,000 FICA tip credit and FICA income tax expense of $20,000, the employer can only deduct the FICA tax expense of $15,000 ($20,000 initial FICA income tax expense – $5,000 credit). In cases where the credit ends up being more than the employer’s tax liability, the employer is permitted to carry the credit forward for 20 years or back one year. The credit is carried forward indefinitely until the credit is fully absorbed, in accordance with the treatment for general business credits.
After calculating the credit on Form 8846, partnerships and S Corporations report the credit on Schedule K-1 to each owner who will then report the tax credit on their Form 3800. C Corporations should carry the Form 8846 credit directly to Form 3800, Part III, line 4f.
Frequently Asked Questions (FAQs)
The tip credit can reduce an employer’s payroll tax. However, if the credit is taken, the employer will get less of an income tax deduction for FICA expense.
A tip credit on a pay stub does not represent a deduction from the employee’s pay. Instead, a tip credit represents an amount of an employee’s tips that the employer has allocated to satisfy their minimum wage requirement.
Employers who are in the food and beverage industry are eligible to take advantage of the FICA tip credit.
Bottom Line
The FICA tip credit can provide financial relief for restaurant owners by reducing payroll tax. The credit is claimed on IRS Form 8846 and transferred to Form 3800. FICA income tax expense must be adjusted if the credit is taken.
