Question:   Of my allocated tips, I tip-out 15% to the busboy and 5% to the bar. Where do I deduct this on my tax return?

Answer:   You cannot deduct tip-outs (the tips you split with other employees) on your tax return. Nor can you deduct them from your allocated tips. The law requires that you report your tips to your employer by the 10th of the month following the month you received your tips.  At the time you report your tips to your employer, you do not report any portion of the tips you receive that you passed on to other employees,  However you must have a record of the tips you shared with other employees.

• You should keep a daily record of all tips you receive.  The practice of tipping-out is one of the reasons you should keep a detailed daily record of your tips.
• If you kept a daily record of your tip-outs, and you reported all your tips to your employer, then if the employer reported any additional tips in Box 8 of Form W-2 you do not have to report the additional (allocated) tip amounts.  This is because you reported all tips you received net of any tips shared with other employees, and your daily record can substantiate the tips reported. 

Tipping-out, by itself, should not cause an allocated tip situation:

You must include the allocated tips shown in Box 8 of your Form W-2 as income on your income tax return unless you have adequate records to show that you received less tips in the year than the amount shown in Box 8.  Your employer allocated tips to you if the tips you reported to your employer were less than your share of 8% of food and drink gross receipts,

• When you report to your employer the cash tips you receive, you should first report the total tips, then the amounts tipped-out. Publication 1244 (PDF), Employee's Daily Record of Tips and Report to Employer, includes Forms 4070 and 4070A, Employee's Report of Tips to Employer that provides lines to record:

               o Cash tips received
               o Credit and debit card tips received
               o Tips paid out (tip-outs)
               o Net tips

The detail of the information provided should enable your employer to develop a reasonable, fair, and accurate method for determining whether tips need to be allocated, and, if so, how much.

Employers who operate large food and beverage establishments are only required to allocate tips if the total tips reported by all the employees who customarily receive tips are less than 8% of gross receipts.

When there is a tip-splitting arrangement, it is important that all tips, including those received through tip-splitting, be reported to the employer by each employee who receives $20 or more in a month.