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The Nation

Justices Look at Taxing Tips

Law: The Supreme Court weighs the IRS' use of estimates when assessing a restaurant's federal payroll levy.

January 12, 2002|DAVID G. SAVAGE | TIMES STAFF WRITER

WASHINGTON — The Supreme Court took up a case Friday from San Francisco's oldest Italian restaurant to decide whether the government can tax eating establishments based on an estimate of the tips earned by their waiters and bartenders.

The outcome is not likely to have a direct impact on waiters and other employees, but it may result in higher payroll tax bills for restaurant owners.

These owners are required to pay a Social Security tax of 7.65% on the money earned by their waiters and other employees. However, because much of their income comes through tips, the owners cannot know exactly how much their waiters earn.

They might rely on the reports from waiters themselves, but the federal tax collectors say only about half of tip income is reported.

In hopes of collecting more money, the Internal Revenue Service has turned to estimates drawn from credit card receipts.

In the case of Fior d'Italia, a North Beach restaurant that dates to the 1880s, tax collectors decided that the income from tips must be about 15% of the restaurant's total gross receipts for the year.

Using this method, the IRS figured the restaurant had underreported its tip income by $156,545 in 1991 and $147,529 in 1992. It then sent the restaurant a back tax bill of $11,976 for 1991 and $11,286 for 1992.

The owner paid a portion of the bill, but went to court to challenge the IRS' method of calculating tips.

Last year, the U.S. 9th Circuit Court of Appeals, on a 2-1 vote, said the IRS had erred by "assessing restaurants based only on the rough, and somewhat inflated estimates" of the tips earned by their employees.

Judge Alex Kozinski said the IRS should "audit the employees" rather than "slap the employer with assessments based on aggregate estimates."

In dissent, Judge Margaret McKeown said there "is nothing magical" about what the IRS is doing. It "has simply devised a practical means of calculating the tip income."

Bush administration lawyers appealed the issue to the Supreme Court, saying the appeals court ruling threatened to undercut the government's stepped-up collection efforts.

The amount of tip income reported nationwide has risen from $8.52 billion in 1994 to $14.31 billion in 1999, the solicitor general said.

The Supreme Court will hear the case, U.S. vs. Fior d'Italia, 01-463, in late April and issue a ruling by July. The National Restaurant Assn. says 170,000 restaurants would be affected by the outcome.

Death Penalty Sentencing by Judges Reviewed

The Supreme Court agreed Friday to decide a crucial question on how the death penalty is imposed in Arizona and eight other states.

In these states, a judge, not the jury, decides whether a convicted murderer will receive a death sentence.

Until two years ago, the Supreme Court had upheld these laws as constitutional. But in a New Jersey hate crime case, the court ruled, 5-4, that extra prison time imposed by a judge on a man who had threatened his neighbors was unconstitutional. The court's opinion said jurors must decide whether the extra punishment was warranted.

Lawyers for Timothy Ring, an Arizona murderer, said the same principle should apply to their client. A jury convicted him in the 1994 killing and robbery of a Wells Fargo driver. In a separate hearing, the judge concluded that Ring planned the crime and shot the driver. The judge sentenced him to die.

The majority in the New Jersey case, however, was an odd configuration. It included liberal Justices John Paul Stevens, David H. Souter and Ruth Bader Ginsburg, joined by conservatives Antonin Scalia and Clarence Thomas.

If the high court rules that the Arizona system is unconstitutional, it could affect 795 death row inmates in Arizona, Alabama, Colorado, Delaware, Florida, Idaho, Indiana, Montana and Nebraska.

Arguments in Ring vs. Arizona, 01-488, will be heard in April.

Punitive Damages

The court agreed to decide if local governments can be hit with punitive damages, as well as payment for actual losses, if they violate the rights of a disabled person.

An appeals court upheld $1.2 million in punitive damages, in addition to $1 million for actual damages, in the case of a paraplegic who said he was mistreated by Kansas City police after being arrested (Barnes vs. Gorman, 01-682).

Student Information

The court also said it would decide whether colleges can be sued for disclosing private information about a student or a former student.

The Family Educational Rights and Privacy Act was intended to protect the privacy of students' records, but it is unclear whether Congress meant to allow damage suits against schools and colleges (Gonzaga University vs. Doe, 01-679).

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