Complete Guide on Restaurant Taxes for Managers/Owners

Importance of Understanding Restaurant Taxes as a Business Owner

The restaurant industry has specific conditions that complicate its taxation such as tipped employees and a bevy of state and local laws that regulate sales and payroll taxes. As a restaurant owner, it’s critical that you, and not just your accountant, understand the taxes on restaurants. This knowledge will enable you to reduce risk to your business and minimize your tax burden. 

IRS Tax Regulations for Restaurant Businesses

In the United States, businesses are taxed differently depending on their legal structure. We’ll explore what that means for sole proprietors, C corps and more in the next section. In short, some types of businesses function as pass-through entities, meaning that taxes on the business are passed on to the owners, who are taxed individually. Other types of businesses must pay taxes as an entity in their own right. 

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The exact IRS Forms needed to properly pay taxes on a restaurant business will depend on the business entity type. 

Individuals and pass through entities will be using some combination of:

• 941, Employer’s Quarterly Federal Tax Return
• 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return
• W-2, Wage and Tax Statement
• Schedule C (Form 1040), Profit or Loss from Business
• Schedule C-EZ (Form 1040), Net Profit from Business
• Schedule SE (Form 1040), Self-Employment Tax
• 1040, U.S. Individual Income Tax Return

Partnerships will use:

• 944, Employer’s Annual Federal Tax Return
• 940, Employer’s Annual Federal Unemployment (FUTA) Tax Return
• 1065, U.S. Return of Partnership Income
• Schedule E (Form 1040), Supplemental Income and Loss
• Schedule SE (Form 1040), Self-Employment Tax
• 1040-ES, Estimated Tax for Individuals
• 1040, U.S. Individual Income Tax Return

A corporation will engage with:

• 941, Employer’s Quarterly Federal Tax Return
• 940, Employer’s Annual Federal Unemployment (FUTA) Tax return
• Schedule E (Form 1040), Supplemental Income and Loss
• Schedule SE (Form 1040), Self-Employment Tax
• 1120, U.S. Corporation Income Tax Return
• 1120-W Estimated Tax for Corporations

Corporate Taxation by Entity Type

Sole Proprietorships

A sole proprietorship passes on all tax liability to the individual. No corporate tax rate is paid, instead the owner pays personal income tax on all restaurant profits. While this legal structure is the simplest, it limits ownership to a single person (you can’t have partners) and in the event of a tax dispute, full legal liability falls on the individual—there is no legal distinction between personal assets and business assets.

LLCs and Partnerships

An LLC, or Limited Liability Corporation, can be single member or multi-member, meaning it has one owner or multiple owners. In either case, all taxes are passed through to the owners, who are assessed taxes at the individual rate. Partnerships work the same way. Note that for both LLCs and Partnerships the businesses are required for file “informational tax returns” that show their profit and loss for the year. This informational return does not entail actual payment of any taxes it shows as due, rather those are paid individually by the owner(s).

Corporations

Restaurants organized as corporations file a corporate tax return and then separately, all shareholders must pay tax on dividends received. This means Corporate profits are taxed doubly—first at the corporate level, and again when profits are distributed. Despite this disadvantage, many restaurants will choose to operate as a corporation in order to have a large ownership group (i.e. shareholders) and for robust liability protection.

Understanding Restaurant Taxes

Sales Tax

Restaurants are responsible for collecting sales tax on all transactions. This requirement encompasses not just food and beverage sales but also catering, merchandise and space rental income. Your city and state typically set their own sales tax rates, though some jurisdictions are notable for not having any sales tax at all. To properly collect sales tax, research your local laws and set the appropriate rate on your POS to make sales tax application automatic. Retain your transaction records to be prepared in the event of a sales tax audit by local authorities. 

Payroll Tax

Payroll taxes are paid to the government to cover social security, medicare and unemployment tax. Part of payroll tax is the responsibility of the employee (and is deducted by you on their behalf from their paychecks). The other part is paid directly by the employer.

Property Tax

In the event that you own your restaurant’s building and land, you’re responsible for paying property tax. It’s also not uncommon for restaurants that lease their property to have a provision in the lease that makes them responsible for a percentage of property tax. Know your lease terms.

Income Tax

Income tax for restaurants is the same as for any other type of business. Employees are responsible for paying their share of income tax on W-2 Forms. Whether the business itself pays a tax on profits depends on whether its a pass-through entity such as an LLC or partnership. If the business is a corporation, it will need to pay a corporate tax rate on profits. Corporate distributions to owners are then taxed again at the individual level.

Restaurant Taxes on Tips

Tips are taxable income and must be reported as such. There’s space on the W-2 form for exactly this purpose. Tips get no special tax treatment—the tax rate is the same as regular income, and payroll taxes are assessed in the same manner. The only distinction is that employees are responsible for separately tracking and reporting tip income to their employers. If employees neglect to report this income to their employer (and so make it subject to regular payroll tax withholding), they must use Form 4137 to account for the tip income.

Employers are responsible for correctly withholding payroll taxes from employee wages, and paying the appropriate employer share of payroll taxes. As tips are included as part of total employee income, no special provision is necessary. Employers should use Form 941 to report all payroll taxes.

A tax credit is available to refund the amount of employer social security and medicare taxes paid on tip income that exceeds federal and local minimum wages. This is known as the FICA tip credit, which is calculated and paid via IRS form 8846. In short, the tax credit is equal to the amount of tip income per employee above the minimum wage times 7.65%.

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Strategies for Restaurant Tax Planning

As this guide to taxes on restaurants has illustrated, there are nuances to the tax treatment of restaurants. Here are some quick tactics to improve your grasp of restaurant taxes:

• It’s well worth the investment to work with a tax professional who can help you reduce your audit risk and maximize your deductions. A local accountant will also know the relevant state, county and city tax laws.
• Retain all records of sales transactions, purchases, and payroll. This information will be crucial in the event that you need to show proof of your accounting figures to the IRS or local tax authorities. 
• Save as much on your taxes as possible by maximizing your deductions. The details of how to go about this should be handled by a professional tax advisor, but the gist is that many of your daily expenses are deductible costs of doing business, and thus can reduce your tax liability. 
• Finally, remember that you’re responsible for paying estimated taxes at regular intervals throughout the year, not just in April. Research your required payment interval and keep to it.