Tips and gratuities--Some taxing issues.

• Author: Butler, Caitlin

A Simple Gift, Right?

In 2012, Statistics Canada estimated the total underground economy in Canada to be $42.4 billion. What comprises this significant amount? It has been a very popular and strong focus in recent years to attribute this activity to high net worth individuals, business owners and offshore tax evasion. However, it is not simply these individuals and businesses that are responsible. Individuals at all income levels, from every walk of life, contribute to these unreported, untaxed amounts.

For example, 12% of the total underground economy activity can be found in the accommodation and food services industry. How does this happen? A significant contributor would be unreported tips and gratuities--those gifts provided to servers for a job well done. Many people in service industries (e.g. restaurant servers, taxi drivers, and hairdressers) receive gratuities, often not reflected on a T4 (Statement of Remuneration Paid) or similar information slip, and it is widely believed that much of this income goes unreported.

In this article we will focus on both the employee and employer responsibilities with respect to tips and gratuities, as well as possible penalties that may arise from unreported amounts and means to rectify failings to report income in prior years.

For the Employee

All amounts received by virtue of an individual's employment, barring an exception, are taxable. This includes not only salaries, wages and bonuses, but any benefit received by virtue of employment. CRA discusses an array of benefits in its publication T4130, Employer's Guide to Taxable Benefits and Allowances. Allowances, for example, are generally taxable. One area of recent CRA activity in this regard is automobile allowances, which are taxable unless they are both reasonable in amount and based solely on distance travelled for employment purposes.

Employment benefits received from persons other than the employer, such as tips and gratuities, fall into this wide net. In some cases, an employer will include tips paid to an employee on the individual's T4 slip, possibly withholding Canada Pension Plan (CPP) and Employment Insurance (EI) premiums, and taxes. Employees should carefully consider whether all tips received were properly reported in the T4. Amounts not included on the T4 must still be reported.

In other cases, the tips will not be reported on a T4 slip, or any other document. In this case, the individual should independently track all tips...