Ask the Expert: Tax Breaks for Restaurants
Q: I’m a fairly new restaurant owner and want to get a better handle on some tax issues for this year and some best practices for future years. Are there any special tax rules or breaks for restaurants?
A: Restaurants have the dubious honor of having unique tax laws in three big areas of tax: Income, payroll and sales tax laws have specific rules that heavily affect how restaurants operate and set up their own internal processes.
Income Tax: The Tax Cuts and Jobs Act of 2017 had a few huge tax cuts for small businesses and restaurants are perfect candidates for these. The Qualified Business Income Deduction allows an individual taxpayer to deduct 20 percent of qualified business income. There are many limitations and phase-outs for this new deduction, but in general, restaurants clear those hurdles with no problem. In simple terms, if you make $100,000 taxable net income in the restaurant, the IRS will only tax you on $80,000. Bonus Depreciation allowed unlimited 100 percent first-year depreciation for new or used qualified assets acquired and placed in service during the year. Basically, any furniture or equipment you buy can be completely expensed right away. It is beneficial to discuss the pros and cons of this since that leaves nothing to deduct in future years, and if you’re paying for the equipment for five years it can be nice to have the deduction parallel the cashflow.
Sales Tax: Auto gratuities are a classic fight between a restaurant’s necessity and a regulatory nightmare. Every restaurant owner knows a server who has been run ragged trying to keep up with a party of 10, only to get tipped 5 percent. Auto Gratuities should be a simple answer to this annoying problem. This transaction was unfortunately complicated by the IRS and the state of Minnesota. This is too complex for a quick discussion. Be sure to ask your accountant or an expert about the complexities before implementing auto gratuities.
Payroll Tax: The Employer Tip Credit is arguably the most beneficial restaurant-specific tax credit under current tax law. The credit can be complicated to calculate in states that allow employers to pay their tipped employees less than minimum wage, but for better or worse, Minnesota does not allow this. As employees report their tips on their payroll, the restaurant is required to match Social Security and Medicare on all of these wages. This boils down to the restaurant having to pay 7.65% extra in payroll tax on wages that went straight to the employee from the patron. There is, however, a silver lining to this. All of that extra payroll tax paid in by the restaurant can be claimed back as a tax credit on the owner’s tax return. Much like the Work Opportunity Tax Credit (WOTC), this tip credit will reduce, dollar for dollar, any tax obligation to the IRS. To put this in real terms, if the tipped employees of a restaurant collectively claim $50,000 worth of tips received during 2020, the restaurant has paid 7.65% in payroll taxes on those tips. When the company’s tax return and then the owner’s tax return are filed, the owner will get $3,825 as a tax credit to offset their total IRS obligation. While it’s technically a tax credit that has been paid for, it can be a nice surprise to offset a restaurant owner’s personal tax obligation.
Q: I know that the $15 minimum wage is a reality for restaurants—and I also understand that adding service charges to customers’ bills to cover medical and mental health insurance for employees is currently being tested in the courts—so what can I do to help my bottom line besides raising prices?
A: Every restaurant has felt its margins and net income getting squeezed over the years. Minimum wage is probably just the most public squeeze we have seen in several years. I encourage every restaurant to do a deep review of all areas where they can improve efficiency, decrease overhead and reduce their direct costs.
Menu costing your top items is a simple process that is a good exercise to run through every year or two to make sure you are still on track. If your top seller has a bad profit margin, how can it be tweaked to make it better? Smaller portions, different cuts of meat, a different mix of ingredients or maybe it needs to be raised a few dollars. There are many options, but until you know which items to focus on, you could be barking up the wrong tree.
Benchmarking is also an amazing tool to see how your restaurant stacks up with others in your state or nationally. Minnesota has much higher payroll than our neighbors so finding state-specific information is best. Reach out to your state association, payroll providers, CPAs or colleagues to see where to get good comparisons to identify where you might be able to cut overhead costs.
I am also seeing a credit card surcharge start to become the norm. There are some rules around a credit card surcharge, but most good processors will be able to guide you through this. In the many implementations I have seen of this, the fee is generally 3 to 3.5 percent and the customer backlash has been extremely small. Most consumers understand that credit cards cost the restaurant money, and in my opinion, businesses have borne the brunt of this expense for far too long.
Nick Swedberg is a partner with Boyum Barenscheer, a CPA and advisory firm. He offers clients in the restaurant and brewery industries tax planning and preparation, along with CFO duties. You can reach him at firstname.lastname@example.org.