What records do you need when your income is from tips? An IRS agent will tell you to keep a daily diary.

 

Twice Judith Lee Krause said that's what she did. And twice the IRS said

she didn't.

 

Krause worked as a bartender at the Sands Hotel and Casino in Atlantic City , New Jersey . The Casino offered complimentary beverages to its game-table and slot machine patrons. When servers received drink requests, they gave them to a bartender, like Krause. The servers shared their tips with the bartenders, who also received an hourly wage.

 

Krause kept a booklet where she recorded tips. Sometimes she wrote them down; sometimes she didn't.

 

The IRS increased her tip income. It determined her tips based on its own statistical analysis: Agents had observed servers in 10 Atlantic City casinos using methods they considered conservative: Where vision was obstructed, they recorded no tips. If unsure of the denomination of a bill, they assumed it was $1. After arriving at a tip average, they converted it to an hourly rate. They multiplied this rate by the number of hours Krause worked.

 

The judge was suspicious of her records. For example, she carried some tip slips in her wallet, yet none showed deterioration and appeared in as good a condition as slips not from her wallet. He agreed with the IRS that she underreported income by $4,209.

 

The story doesn't end here. For the next tax year, the IRS , again using its statistical method, increased her income and added a negligence penalty.

 

Krause was ready. She dragged the IRS back into court and told the judge this: She kept a complete diary in a notebook, filled in the tip amount either after work or at home that night and reported the week's total to her employer the following Monday morning.

 

The judge ruled for her. He said although the IRS ' method is reasonable, it does not reflect her income as accurately as her own daily records.

 

The Kraus case is a lesson to anyone who receives tips: cab drivers, beauticians and others. Tip receivers should realize that when the IRS doesn't have statistics, like it did in the Krause case, it will compare the employee's reported tips to the average tips on all charge card tickets and on tax returns of other employees.

 

For more tips information ask the IRS , for Publication 1244. For employer reporting requirements see Employer/Employee at www.taxtables.com .