Supreme Court finds employers liable for underreported tips

June 17, 2002

WASHINGTON, D.C. -- In a 6-3 decision on June 17, the U.S. Supreme Court ruled that the Internal Revenue Service can hold restaurant owners responsible for FICA taxes not paid on underreported tips.

The ruling in Fior d'Italia v. United States marks the end of a 10-year-long dispute between the IRS and San Francisco operator Bob Larive, owner of Fior d'Italia. In 1992, the agency billed Larive $23,000 for extra taxes it claimed he should have paid on tips it believes his employees didn't report.

Choosing not to pay, Larive fought the IRS for five years in federal district and appeals courts, and won on both occasions. He contended that employees, not restaurant owners, bore the responsibility for reporting tips honestly.

"This is sad news for the restaurant industry," said Larive in a National Restaurant Association release. "Hopefully, this won't open up a Pandora's Box of audits, whereby the IRS can come in and decide what they think the proper number is for tips, and therefore assess FICA taxes on some random number they have invented."

Peter Kilgore, general counsel and senior vice president of operations of the NRA said the group was deeply disappointed by the decision.

"(It) basically condones the IRS's unfair and unjust tactics to pit restaurateurs against their own employees," said Kilgore. "Quite frankly, this decision could mean the difference between a restaurant staying in business or closing its doors."

To calculate the additional tax due from Fior d'Italia, the IRS used credit card receipts to calculate an average tip of 14 percent. It compared that to the restaurant's gross receipts and actual tips reported, and levied the additional tax.

The court ruled that the IRS was within the law to do so. But Justice David Souter, who dissented, wrote that the law doesn't allow the IRS to shift the accountability for underreported tips onto employers.

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