Best 3 Tax Credits for Restaurants

7 minute read

When budgets are tight, one of the best things a restaurant owner can do is talk to their tax advisor. Qualified tax advisors can help restaurateurs optimize tax deductions and apply for tax credits, and these simple tax saving mechanisms can be the difference between business success and failure. Here are three of the most popular tax credits restaurant owners can take advantage of.

Employee Retention Credit

The employee retention credit (ERC) rewarded taxpayers for keeping employees on the payroll during the first year and a half of the coronavirus pandemic. The ERC went through a few changes since it was first introduced in March 2020, and when we look back, we can see that there were effectively two different credits: one for 2020 and one for 2021.

2020 ERC

When the ERC was first introduced, businesses were promised a refundable tax credit of up to 50% of qualified wages paid to employees between March 12, 2020, and December 31, 2020. Qualified wages included payroll, overtime, bonuses and the cost of health plans. Up to $10K of qualified wages for each employee was potentially eligible for the credit. So, depending on the restaurant’s eligibility, the maximum credit in 2020 was $5K per employee.

To qualify for the 2020 ERC, a couple of things had to happen:

  • The business must have had 100 or less full-time equivalent employees (FTEs). Businesses that had more than 100 FTEs may still have been eligible for the credit, but only if they paid for employees to stay at home. In other words, large employers could only qualify for the credit if they paid their employees not to work.
  • The business’s operations had been suspended due to government orders or they could prove a decline of at least 50% in gross receipts compared to 2019. Many restaurants were forced to close due to state or local government orders, but many still qualified for the credit by calculating their 50% reduction in gross receipts. The gross receipts calculation is quantifiable, making it easier for restaurant owners to know if they were eligible.

2021 ERC

Beginning in 2021, the ERC changed in five major ways:

  1. It was extended through September 30, 2021.
  2. The credit was raised from 50% to 70% of qualified wages.
  3. The per-employee limit was raised from $10K per year to $10K per quarter.
  4. Restaurants were eligible for the credit if they had 500 or less FTEs rather than 100.
  5. Restaurants only had to show a 20% drop in gross receipts rather than 50%.

Although the ERC is no longer effective, businesses who haven’t yet claimed their credits can amend 2020 or 2021 employment tax returns to do so. And businesses that thought they weren’t eligible for the credit should schedule an appointment with their tax advisors to make sure. Combined, businesses can claim up to $26K in credit per employee from 2020 to 2021 with the ERC, so it’s worth taking a second look.

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FICA Tip Credit

The FICA tip credit has been around since 1993, and it continues to be a popular incentive for restaurant owners. But before we get into how the credit works, let’s remind ourselves of how cash tips should be reported and taxed.

When an employee receives at least $20 in tips per month, they are required to report them to their employer (the restaurant) who must treat those tips as payroll. This means:

  • The restaurant owner should withhold federal, state and local income taxes attributable to tip income. They should deduct those withholdings from their employee’s hourly wages.
  • The restaurant owner should withhold the employee’s portion of payroll taxes attributable to tip income. They should deduct those payroll taxes from their employee’s hourly wages.
  • The restaurant is liable for paying the employer’s portion of payroll taxes on those reported tips.

The FICA tip credit has the potential to refund all the employer’s portion of FICA taxes — 7.65% — back to the business as a nonrefundable income tax credit.

Here’s how it works:

Restaurants can claim a 7.65% credit on tip income that exceeds the federal minimum wage that was in effect in 2007, which was $5.15 per hour. In states where tipped workers make at or above this minimum wage, the calculation is straightforward: the tax credit is 7.65% of employees’ reported tips. But in states where tipped workers make below this minimum wage, the calculation has an additional step.

Businesses cannot claim a credit for tips used to bring workers’ rate of pay up to $5.15 per hour. Only when tips help employee pay exceed this hourly rate will businesses be eligible for the credit. So, to calculate the credit, they must:

  1. Subtract from the $5.15 per hour federal minimum wage the actual wage paid to the employee to determine the amount of tips not eligible for the credit.
  2. Subtract the ineligible amount of tips from the total tips to determine creditable tips.
  3. Multiply the result by 7.65%.

Work Opportunity Tax Credit (WOTC)

The WOTC is an income tax credit that rewards employers for hiring workers who face barriers to employment, including veterans, ex-felons and food stamp recipients. Employers are awarded an income tax credit between 25% and 40% of up to $6K of eligible employees’ first-year wages. Some workers can even help generate a WOTC for the restaurant if they remain employed for a second year.

Although the WOTC is available to all types of businesses, restaurants find it especially appealing. Traditionally, the restaurant industry faces high employee turnover (staff turnover hovers around 70% each year). Onboarding new workers is costly, and the WOTC can help offset these costs.

To qualify for the WOTC, there are a few things restaurant owners must do:

  1. Find a qualified worker. State Workforce Agencies (SWAs) administer the WOTC certification process. They can also connect restaurants with job centers and other agencies, like the Veterans Administration, who can help them find qualified candidates.
  2. Request WOTC certification. Once they’ve found a suitable new hire, they must get a certification that verifies the worker is part of a WOTC targeted group. To do this, the restaurant must submit IRS Form 8850 together with ETA Form 9062 within 28 days of the new hire’s start date. If the candidate gets certified, the SWA will approve the certification form: ETA Form 9063.
  3. Claim the credit at the end of the tax year. When filing the tax return, the restaurant can claim the WOTC based on certified employees’ first-year wages.

But businesses that claimed the WOTC in 2020 or 2021 should be careful — they cannot claim the employee retention credit for the same wages that made them eligible for the WOTC.

Plan for Restaurant Tax Savings With Tax Planning Software

When trying to strategically plan for tax savings, using a high-quality tax planning software can make all the difference. Corvee tax planning software considers each of these credits and helps you determine if they are worthwhile for your business.

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