How should salons handle expense documentation for booth renters versus employees, plus tips?

Whose expense is it: the salon's or a renter's?

IRS Publication 4902 describes a booth renter as someone who leases space from an existing business and operates their own business as an independent contractor, responsible for their own record-keeping. Whether a stylist really is a renter is covered in the related question on contractor records.

Make the split when you buy: the IRS page What kind of records should I keep says expense documents should identify the payee, amount paid, proof of payment and date incurred, and describe the item to show it was a business expense.

This working rule, not an IRS one, assigns each purchase when made: an item is the salon's if the salon buys it to use in its own services, sell to its own clients, run its own premises or supply renters under the rental agreement; an item a renter will use that the agreement does not supply is the renter's, even on the salon's receipt. Apply it this way:

What documents show a booth-rental arrangement?

Deposits show only that money arrived; without a written agreement, the relationship rests on how payments were coded, the salon's own assertion. As a recommendation, not an IRS requirement, have the agreement name both businesses and the space, and state the start and any end date, the rent and when it is due, what the rent covers (such as utilities, laundry, reception, backbar product or card processing) and what is charged separately, on what basis. Date every amendment. The IRS page What kind of records should I keep says to keep documents that show the amounts and sources of gross receipts, including deposit information, receipt books and invoices, so match a rent invoice or receipt for each period to its deposit.

IRS Publication 538 says that under the cash method you include in gross income all items of income you actually or constructively received during the tax year: a cash-basis salon counts rent when received, listing any unpaid at a period end for follow-up, not as income or an opening balance. Under an accrual method it says you generally include an amount when all events have occurred which fix your right to receive the income and you can determine the amount with reasonable accuracy, with a separate rule for applicable financial statements. An accrual-basis salon therefore records each period's rent as a receivable and income, and the payment clears the receivable.

How do you document shared costs and recharges?

On cash- or tax-basis books, record each recharge in its own income account and leave the supplier bill at full cost, so both stay visible. For U.S. GAAP books, Accounting Standards Update 2016-08 summarizes FASB's revenue standard: an entity that controls the specified good or service before that good or service is transferred to a customer is a principal and recognizes revenue gross; an agent recognizes only its fee or commission. Record for each recharged cost which the salon is. Recharges are timed by the same cash or accrual tests as rent.

How do you keep retail product apart from product used on clients?

The IRS records page defines purchases as the items you buy and resell to customers, and expenses as the costs you incur, other than purchases, to carry on your business: retail stock is a purchase, backbar product used in services a supplies expense. Publication 538 adds that, generally, if you produce, purchase or sell merchandise, you must keep an inventory and use an accrual method for merchandise sales and purchases, with exceptions it sets out under Inventories; check whether one covers your retail stock before recording it on a cash basis. Then keep the two apart in three places:

• On the supplier invoice. Split it line by line into retail stock and backbar product, each coded to its own account.
• At the till. Ring up retail sales apart from services, and log any retail item opened for client use as moved to backbar.
• In recharges. Base product recharges on backbar product only; a renter buying from your shelf is a retail sale.

What makes repaying an employee a reimbursement rather than pay?

The Treasury regulation on reimbursement arrangements, 26 CFR 1.62-2, sets three requirements:

• Business connection. The arrangement pays only for business expenses that are allowable as deductions and that the employee paid or incurred in performing services as your employee; a reimbursement combined with wages in one payment must be specifically identified or paid separately. An arrangement paying an amount regardless of whether the employee incurs, or is reasonably expected to incur, business expenses fails.
• Substantiation. The arrangement requires each business expense to be substantiated to the salon within a reasonable period: under section 274(d)'s rules where that section applies, and otherwise with information sufficient to identify the specific nature of each expense and to conclude that it is attributable to the salon's business; vague, nondescriptive terms are not enough.
• Return of excess. The arrangement requires the employee to return any amount beyond the substantiated expenses within a reasonable period.

Under the same regulation, amounts paid under an arrangement meeting all three, up to the substantiated expenses, are not wages; if it fails any requirement, all amounts paid under it are wages. The regulation applies these requirements employee by employee.

The regulation's test is the three requirements above; it does not require an approval. For each repayment keep the claim (date, item, amount and business purpose, with the itemized receipt), the payment record and any excess returned. As the salon's own controls, also keep its reimbursement terms in writing and an approval by someone other than the claimant. Tools, uniforms and training follow the same route unless the salon buys them directly.

Which tips does the salon have records for?

The relationship, not the payment method, decides who documents a tip. IRS Publication 4902 says your employees must report their tips to you by a monthly deadline it sets, including card tips you paid over and tips received directly; anyone operating their own business as a sole proprietor or booth renter must report tips received in the normal course of that business in gross receipts and on the appropriate income tax form.

A commission stylist treated as an employee follows the employee column; one treated as a non-employee keeps their own tips, and tips on the salon's terminal are owed to them on their commission statement. Recording tips is covered in the related question on tips. Check your state's wage and tip rules separately.

How should renters' payments through the salon's terminal be documented?

The IRS page What to do with Form 1099-K says that if you shared your credit card terminal with another person or business, your Form 1099-K will include payment card transactions that belong to them, and that where required you file and furnish an information return for each, which the related question on 1099-reportable payments covers. It also says to keep records of payments issued to each, including shared terminal written agreements and cancelled checks.

Treat that money as the renter's: post it as owed to the renter, never as sales or employee tips. On GAAP books, the agent rule above limits the salon's revenue to any fee it charges the renter. Run the pass-through in this order:

1. Put it in writing. The agreement says which payments the terminal takes for the renter, who bears card fees, how often you settle and what statement the renter gets.
2. Tag each sale. At checkout, split each transaction by line (service, retail product, tip) and assign each line to the renter or the salon in the salon's own system; a payment that mixes the two, like the example below, is split before it is posted.
3. Record the renter's share as owed. Post it to that renter's liability account, and set any automatic sales posting from your card or booking system to do the same, so nothing is posted twice.
4. Check each renter's statement. Before each settlement, list that renter's client payments from the terminal records, with service, tip and any fee recharged, and check the settlement amount against that renter's statement, not just the day's total.
5. Confirm where the money goes. Apply the rule below.
6. Settle and file. Pay the statement amount; file the statement and payment record in the renter's file.

How do you confirm where a settlement goes?

Before a renter's first settlement, and before any payment to bank details other than those last confirmed, confirm the account with the renter in person at the salon, or by calling a number the renter gave you in person or one recorded at an earlier confirmation made in person or on such a number. None of these counts:

• A number or link on an invoice or statement, in the request, or in any email or text, even an earlier one or one in a separate thread
• A call, meeting link or video call arranged through the message carrying the change or any later message in that thread
• A phone number, mailing address or bank account added or changed in your records since it was last confirmed that way, whether by a call to reception, a message, the booking system, a payroll change or any other route, until confirmed again in person or on a number that qualifies
• An account held for another purpose, such as the account a person's wages go to, unless it was confirmed the same way

Until new details are confirmed that way, a first settlement waits, and after a change you pay only to the details confirmed before it or by a check handed to the renter at the salon. Where staffing allows, someone other than the person who entered the details confirms them; a salon run by one person still confirms in person or on a number that qualifies before paying. Record who confirmed, how and when. The same rule applies before the first payment to a non-employee commission stylist and before any payment to their changed details.

How does one card payment look for a renter and for an employee?

A client pays 130.00 by card: an 80.00 service, a 30.00 retail product from the salon's shelf and a 20.00 tip. In this example the processor deducts a 3.90 fee and deposits 126.10; sales tax is left out. Entries are shown at deposit. An accrual-basis salon records the sale on the service day through a card-clearing account that the deposit clears; a cash-basis salon records it when received (Publication 538 counts income credited to your account or made available to you without restriction as constructively received, and income your authorized agent receives for you as received when the agent receives it; check how that applies to card sales still settling at a year end), subject to Publication 538's merchandise rule for the retail sale.

For a renter who bears card fees on their clients' payments, the deposit is recorded like this:

At month end the salon recharges the renter's 3.00 share of the fee, recorded gross as on cash- or tax-basis books (on GAAP books, present it as the salon's principal-or-agent record for card processing requires):

It settles the balance on a statement showing the 80.00 service and 20.00 tip less the 3.00 fee:

For an employee, the same payment is recorded like this:

The salon's income here is 110.00. The tip goes in the employee's tip report; when payroll pays it over, that part of the payroll entry clears Tips owed to employees instead of being posted as a new cost.

What do you collect before paying a renter or commission stylist?

Collect a completed Form W-9 before the first payment: the IRS page Forms and associated taxes for independent contractors says that once you have determined the person you are paying is an independent contractor, the first step is to have the contractor complete Form W-9. Form W-9 says to use it only if the payee is a U.S. person (including a resident alien); the contractors page sets separate withholding for nonresident aliens, so check that before paying a payee who is not a U.S. person.

For a commission stylist paid as a non-employee, the same page says you must withhold at the backup withholding rate from reportable payments of nonemployee compensation to U.S. persons if the person has not provided their taxpayer identification number in the manner required, or the IRS notifies you that the number furnished is incorrect and the payee does not certify it as the notice requires. Form W-9 lists payments in settlement of payment card and third-party network transactions among those that may be subject to backup withholding, so before settling with a renter who has not provided a W-9, check with the related question on 1099-reportable payments whether that reaches your settlements.

Form W-9 says the payee must furnish a new Form W-9 if the name or TIN changes for the account, so request one whenever a renter or stylist reports such a change, follow any IRS notice that a number on file is incorrect, and keep the old form in the earlier period's file. The contractors page says to keep the W-9 for four years.

How should each person's file be organized?

File by person, then relationship, then period, so one person's documents for one period can be produced without searching the whole salon's records. When someone leaves, end any access they had to the salon's terminal and booking system on their last day, changing any shared login or PIN, run the final settlement or payment from the salon's own records, close the file with the end date, and keep it in the salon's own storage, not in anyone's personal email or device.

The IRS page How long should I keep records? says that generally you must keep records supporting an item of income, deduction or credit on your return until that return's period of limitations runs out, and employment tax records for at least 4 years after the date that the tax becomes due or is paid, whichever is later. For income tax returns it gives 3 years after filing, with longer periods in situations it lists. In a departed person's file, records supporting the return follow that return's period, employment tax records at least 4 years as above, and the W-9 four years under the contractors page; keep the file until the longest of these has run.

What if one person holds two relationships?

When one person holds two relationships or moves between them, give each relationship a dated record (an agreement with effective dates, or employment start and end dates), split the file by relationship and period, and file each cost, payment and tip in the segment whose dates cover it. Where the two relationships run at the same time, record with each sale, tip, cost and payment, when it happens, which relationship it arose under (for example, whether the client was booked to the person as a renter or as an employee), and file it in that relationship's segment; dates alone place an item only where one relationship follows the other.

What goes in each relationship's file?

A booth renter's file for each period holds:

• The signed agreement and dated amendments
• Rent invoices or receipts, matched to deposits
• Recharge invoices with calculations, and copies of the supplier bills behind them (originals stay in the salon's records)
• Invoices for renter items bought on the salon's bills, with copies of the bill lines they came from
• Sales receipts for product sold to the renter
• Form W-9 and any replacement
• Shared-terminal terms, settlement statements and payment records
• The record of who confirmed the renter's bank details, how and when
• Any note of why this renter's terms differ from other renters'

An employee's file for each period holds:

• The salon's reimbursement terms in force for the period
• Reimbursement claims with receipts, approvals, payment records and any excess returned
• The log of tools, uniforms and training bought for them
• Their tip reports and the salon's record of card tips paid over
• Payroll records
• Any note of why their treatment differs from colleagues'

A non-employee commission stylist's file holds:

• Form W-9 obtained before the first payment, and any replacement
• The commission agreement, with effective dates and commission basis
• Commission statements tying each payment to its sales and tips
• Payment records and the record of who confirmed their bank details, how and when
• Any note of why their terms differ from other stylists'

Why must everyone in the same arrangement be treated the same way?

IRS Publication 15-A says that if you have a reasonable basis for not treating a worker as an employee, you may be relieved from having to pay employment taxes for that worker. To get that relief, it says, you must file all required federal information returns on a basis consistent with your treatment of the worker, and you or a predecessor must not have treated any worker holding a substantially similar position as an employee for any period since the cut-off year it gives. One inconsistent case can therefore cost the relief the others rely on. The comparison is between positions: the IRS page Worker reclassification – Section 530 relief says that a review of the day-to-day services performed and a comparison of the job functions must be done, and that similar job titles or categories alone are not sufficient, so in a salon with both employee stylists and renters it can reach across the two relationships. Whether two positions are substantially similar belongs to the related question on contractor records. A note of why treatment differs records the basis; it does not change whether the positions are substantially similar.

So treat everyone in the same relationship the same way and keep the same documents for each, record what each person actually does, not their title, and where one person's treatment or terms differ, record why in each affected file when the difference starts.