January 1, 2018 |

Taxes: Playing Nice with Uncle Sam

By Daniel P. Smith


Six common tax mistakes that can threaten a pizzeria’s bottom line, if not its livelihood

For pizzeria owners, the mere sight of an envelope labeled “Internal Revenue Service” often compels a spine-shivering rush of anxiety. The IRS, after all, is an entity business owners generally wish to avoid.

But taxes can be a tricky beast.

While pizzeria owners might star in the kitchen or dining room, picking up the nuances of the Internal Revenue Code, which spans hundreds of pages, remains a complicated feat with many small business owners lacking the funds and time to ensure airtight reporting.

Following the tax code is “not as easy as pulling out your iPhone and getting an immediate answer,” acknowledges David Gair, a board certified tax attorney with Dallas-based Gray Reed.

And the consequences for a misstep are considerable: lost revenue; fines; potential personal liability and, in the most egregious of cases, imprisonment.

• Mistake No. 1: Failing to pay employment taxes.

When restaurants hit a rough patch, perhaps due to seasonality or an unexpected drop in profitability, some owners elect to delay payment to certain creditors, including the government by ignoring employment taxes. Big mistake, says Brad Dimond, a partner with Arizona-based CPA firm Herny+Horne.

“It’s very easy for someone cash-strapped to use this money, but it’s not their money to keep and a very dangerous road to go down,” Dimond says.

If the IRS catches wind, a restaurant can expect fines, while the owner could be criminally charged with a felony. The owner could also be liable for the Trust Fund Recovery Penalty, a charge that cannot be wiped away in bankruptcy.

“Employment taxes require much more urgency than they sometimes receive,” Gair says.

Mistake No. 2: Not taking advantage of tax incentives.

From deferring gift-card sales as recognized income until the card is redeemed to writing off remodeling costs and fixed-asset purchases such as a new oven or freezer, far too many restaurant owners unfortunately overlook incentives that can help them reduce their tax burden. Working with a tax professional who knows the rules as well as restaurant industry peculiarities can certainly prove advantageous.

“There are a lot of beneficial rules restaurants can use to their favor … and many purchases can actually be expensed rather than sitting on the balance sheet,” says Corinne Baughman, a partner with Moss Adams LLP, one of the nation’s largest public accounting firms.

• Mistake No. 3: Neglecting to report tips.

Though becoming less of a problem with the rise of credit card transactions, restaurant owners can nevertheless face challenges in getting servers to report their tips. The IRS, however, maintains clear tip reporting requirements for both employees and employers.

“There are rules in place to address anything that shortchanges the government,” Gair reminds.

The first and most critical step to avoid running afoul of the IRS: have a formal system in place that accounts for tip reporting requirements and regularly communicate these requirements to staff. Such efforts could compel some mercy from the IRS.

Of note, restaurant owners also have a financial incentive to make sure tip reporting takes place with the FICA tip credit, which provides a tax credit for tips in excess of the minimum wage.

• Mistake No. 4: Misclassifying employees.

While some employees, specifically certain types of delivery drivers, might be considered contractors, most everyone else in a restaurant operation is an employee. Misclassifying staff as an independent contractor rather than an employee –– someone who is under the owner’s “direction” and “control” –– will almost certainly draw the ire of the IRS.

“I can’t tell you how many clients I have who treat all staff as contractors rather than employees,” Gair says. “In an audit, the amount of liability for that error could be substantial.”

On the plus side, owners have various ways to correct a misclassified employee, including the IRS’ voluntary classification settlement program.

• Mistake No. 5: Screwing up tax-exempt sales.

From the purchases of individual customers using food assistance programs to nonprofit purchases from schools or churches, restaurants must be aware of the documentation they need to collect during tax-exempt transactions.

“This is an area several states are getting active in auditing and you can get hit with taxes the government thinks you should have paid,” Baughman says, noting that each taxing jurisdiction maintains its own rules regarding recordkeeping in this area.

• Mistake No. 6: Overlooking state and local taxes.

The federal government is far from the only entity interested in taxes, and many restaurants struggle to fully comply with state and local taxes. In fact, Baughman says, state and local taxes regularly prove the most difficult to manage given that levies can be assessed by both counties and cities while the precise rates, in some instances, might shift throughout the year. Even dine-in or delivery tickets can be subject to different taxes.

“It’s actually more likely to run afoul of state and local jurisdictions than the feds because there’s so much more at the state or local level that can get lost in the shuffle,” Baughman says.

The solution? Knowledge, Baughman says.

“While you can always pay a service provider to provide you with a summary of applicable taxes and fees, you can also get this information from city, county and state Web sites,” she adds. “They all usually have a ‘Doing Business In’ section that discusses these.” 

 

Avoiding Tax Troubles: Three best practices to minimize tax errors

  • Act fast. Should a business receive a notice from the IRS or another taxing body, Moss Adams partner Corinne Baughman advises ownership to respond with truthfulness and speed. “Don’t hide it or be afraid of it,” she says. “If you feel uncomfortable, then get a pro involved who knows the rules.”
  • Leverage Book Smarts. A bookkeeper skilled in QuickBooks and familiar with the peculiarities of the restaurant industry is worth his or her weight in gold, attorney David Gair says. “You don’t necessarily need a CPA, but employing a very good bookkeeper is one of the best things a business owner can do,” he says.
  • Maintain Records. Tax law allows taxpayers to take a range of business-related deductions such as mileage. Without documentation, however, a business owner cannot take those deductions and comply with substantiation rules.

Chicago-based writer Daniel P. Smith has covered business issues and best practices for a variety of trade publications, newspapers, and magazines.

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