VOLUME 2, ISSUE 2
KROST QUARTERLY M A G A Z I N E
THE HOSPITALITY ISSUE Risky Business: Safeguarding Your Most Valuable Assets CALIFORNIA’S WAGE ORDER 7: WHAT YOU NEED TO KNOW
Restaurant Technology: Trends and Funding
SALES TAX COMPLIANCE FOR CALIFORNIA RESTAURANTS
Robert A. Benson, former chef and restauranteur, leads the Hospitality Industry group at KROST, serving up operations solutions for area businesses.
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Volume 2, Issue 2 / March 2019 Offices Pasadena Headquarters 790 E. Colorado Boulevard Suite 600 Pasadena, CA 91101 Woodland Hills Office 21800 Oxnard Boulevard Suite 1040 Woodland Hills, CA 91367 Valencia Office 26650 The Old Road Suite 216 Valencia, CA 91381 West LA Office 6100 Center Drive Suite 950 Los Angeles, CA 90045 Phone: (626) 449-4225 Fax: (626) 449-4471 Principals Gregory A. Kniss, CPA Managing Principal Jean Hagan Principal - Business Management Lou Guerrero, CPA, MBT Principal - Tax Practice Leader Jason C. Melillo, CPA Principal - Assurance & Advisory So Sum Lee, CPA Principal - Tax Production, Copy, and Design Bethany Wolfe, Editor-In-Chief Anna Chen, Editor Ellen Reynerson, Graphic Designer Diana Vu, Assistant Editor Mayra Silva, Assistant Editor
CONTENTS
4 6 10 13 16 21 22
The Battle to be a Profitable Restaurant: How to Deal with Employee Theft By Robert A. Benson
Sales Tax Compliance for California Restaurants By Aric Wong, CPA
Risky Business: Safeguarding Your most Valuable Assets By Steve Chhuor, CPA
Tax Breaks: The Next Great Wine Pairing Guest Contributor: Tetyana Guguchkina
The Restaurant Technology Industry: Trends and Funding By Paren Knadjian
California’s Wage Order 7: What You Need to Know By Gina Gross
Cost Segregation Studies for the Hospitality Industry: Does it Increase the Likelihood of Audit? Guest Contributor: Harry Sahi
Inquiries can be sent to: admin@KROSTCPAs.com Stock Photography Adobe Stock - Used with permission Copyright Š 2019 by KROSTCPAs.com All rights reserved. No part of this publication may be reproduced, distributed, or transmitted in any form or by any means, including photocopying, recording, or other electronic or mechanical methods, without the prior written permission of the publisher, except in the case of brief quotations embodied in critical reviews and certain other noncommercial uses permitted by copyright law.
THE HOSPITALITY ISSUE KROST Quarterly is a digital publication released by KROST CPAs & Consultants headquartered in Pasadena, California. Established in 1939, this full-service Certified Public Accounting and Consulting firm serves clients across a variety of industries. With a focus on recognizing opportunities and creating value, KROST equips clients with tools to make better business and financial decisions for the future.
KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
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INTRODUCING KROST’S HOSPITALITY TEAM Robert A. Benson is the Manager of Restaurant Operations at KROST. He has 20 years of operational and executive experience including Vice President of Operations for one the most successful fast casual concepts in California and CEO of his own specialty restaurant group based in Beverly Hills. His successful approach to consulting is helping new and existing business clients create strong foundational systems, practices, and principled leadership that lead to increased profitability and growth. MEET ROBERT
Our team produces regular KROST Insights posted to our website. This issue will highlight some of the hot topics in the hospitality industry including California sales tax compliance, employee theft, data breaches, Wage Order 7, trends in
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KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
Greg Kniss, CPA Managing Principal
HOSPITALITY Team at KROST
Lou Guerrero CPA, MBT Principal - Tax
Jean Hagan Principal Business Management
Robert A. Benson Manager Restaurant Operations
360° Service Model • • • • • • • • • • • • • •
Audit & Assurance Bookkeeping & Accounting Cost Segregation Cybersecurity Assessment or Compliance Fixed Asset Depreciation Review Food Service Consulting Franchise Industry Consulting Internal Control Review & Procedural Reviews Management Information Systems Mergers & Acquisitions Operational Site Inspections Research & Development Tax Credits Tax Planning & Consulting Technology & Systems Integration
Experience You Can Trust Our Sector Expertise • • • •
Restaurant Fine Dining, Quick Service, Bars, and Clubs Food & Beverage Wineries, Breweries, and Distilleries Hotel Travel & Leisure
Steve Chhuor, CPA Manager Assurance & Advisory
Aric Wong, CPA Manager - Tax
“The experienced, multi-disciplined teams at KROST can provide advisory and implementation services for very specific needs relating to hospitality, as well as a holistic approach to tackling multiple challenges as a true partner in the development of your business.” 3
THE BATTLE TO BE A PROFITABLE RESTAURANT:
How To Deal With Employee Theft By Robert A. Benson Manager - Restaurant Operations
M
ost restaurant operators are engaged in a battle to protect margins from increasing labor costs, food prices, new tax laws that adversely impact sales, and the added cost of delivery (driven by increased demand), just to name a few. Most of these examples are areas that are beyond an operator’s control. However, there are opportunities when operating a restaurant, to win the margins battle. One area to manage, which may seem insignificant, but is a silent killer in business, is employee theft. The amount in the restaurant business stolen by employees is about $6 billion dollars annually. The percent of annual revenues lost to theft or fraud is 7%. Believe it or not, 75% of employees have stolen at least once from an employer and 35% have stolen at least twice.1 With these kinds of statistics, it is not only extremely important to be vigilant with all employees, but it is critical to identify the current problems, and initiate programs to lessen and deter the would be violators who could be walking out the door with profits. Two of the most common areas of employee theft in the restaurant industry are larceny (the loss of cash and merchandise) and shrinkage (the loss of inventory). Common forms of larceny include: • Cash theft: at the register or Point of Sale, during the till count, out of the safe or on the way to the bank • Merchandise theft: food products like steaks, bottles of wine or alcohol for personal use or to resell • Company property theft: items like flatware or silverware, wine decanters, and coffee presses One potential solution to help combat this type of loss is a modern, up-to-date Point of Sale System. By utilizing cash control features such as a blind drop at checkout, cashiers will not know what amount should be in the till until he/she is checked out by the manager. Another solution might be to consider going “cashless,” there are many good reasons to make that transition, including the elimination of possible cash theft.
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BELIEVE IT OR NOT,
75%
of employees have stolen at least once from an employer
35%
have stolen at least twice1
Having secure locks and appropriately placed closed circuit cameras can be very effective in determining the problem, while also serving as a deterrent. Employee theft or “shrinkage” can take the form of: • Directed portioning: examples include heavy pours or extra fries • Under charging: charging for a small and serving a large, unauthorized refills, free food for family, friends, or regulars for a bigger tip • Discount sharing: giving employee discounts, comps, and/ or voids dishonestly or outside of company guidelines (if they exist) There are numerous checks, balances, and systems that a savvy operation can employ to combat this type of theft. By establishing training and certification guidelines for employees who handle products, such as bartenders and line cooks, as well as random spot checking and testing, restaurants can help reduce shrinkage problems caused by directed portioning. When it comes to undercharging, a regular audit of voids and comps can be a reliable tool to identify employees or managers who may be stealing. An operator may also want to establish policies that reinforce the use of swipe cards or biometrics when using the POS. A written policy on how discounts are to be used and allowing only managers to apply them are both wise and simple ways to combat discount sharing problems in a restaurant. It is staggering that up to one-third of business bankruptcies occur because of employee theft. Restaurant operators need a plan and policies in place to help combat rampant theft, shrinkage, and waste. A Restaurant Site Assessment provided by a third-party expert can provide a full review of restaurant operations including back office financial controls; payroll and vendor validations; security, kitchen, and bar practices audit; and a full report including actions and recommendations. For more information on restaurant site assessment, visit restaurantaccountants.com. 1
US Chamber of Commerce & OSU School of Hotel & Restaurant Administration
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SALES TAX COMPLIANCE FOR CALIFORNIA RESTAURANTS By Aric Wong, CPA Manager - Tax
W
ith 72,000+ restaurants in California, the state does everything possible to ensure taxes are properly reported, collected, and paid in order to fund hundreds of public programs.
As of the 2016-17 fiscal year, California’s sales and use tax revenue accounted for 21.4% of total state revenue, second only to state personal income taxes, which accounted for 50% of total state revenues.1 According to the 2016-17 Board of Equalization Annual Report, 20% of revenues collected due to noncompliance of sales tax laws come from the food service industry.2 Because of this, it is to be expected that California’s new sales tax collection and enforcement agency, the CA Department of Tax and Fee Administration (CDTFA), will continue to be aggressive. Sales tax generally applies to the sale of food and beverage if served for consumption at a place of business. The taxability of food sold to-go or take-out depends on whether sales meet the requirements under the 80/80 rule.
The 80/80 Rule The 80/80 rule applies to a restaurant if a) more than 80% of the total sales are food; and b) more than 80% of that food is taxable. If the restaurant falls under the 80/80 rule, then 100% of food and beverages sold to-go are subject to sales taxes. There are exceptions: 1. The sale is nontaxable • Sales of cold food in a form that is not suitable for consumption on the premises because it requires further processing by the customer • Sales of cold food in a size not ordinarily consumed by one person (frozen pizza, a quart of potato salad, a quart of ice cream, a whole pie, etc.) • Sales to the U.S. government • Sales for resale 2. A special election is made to not report tax on to-go sales of cold food products, hot bakery goods, and hot beverages as long as they are sold for a separate price.3
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“Sales tax generally applies to the sale of food and beverage if served for consumption at a place of business.The taxability of food sold to-go or take-out depends on whether sales meet the requirements under the 80/80 rule.”
Some restaurants record all sales as “food” or record all food sales as “taxable.” Restaurant owners should check to see if non-food items represent more than 20% of sales, and if the non-taxable portion of food sales (such as cold food sold to-go) is 20% or greater of total food sales. Evaluation of this rule applies on a location-by-location basis; thus, each location must be considered separately. It is especially important to test for this rule if a new food service business was recently acquired or opened. It is also important to test the rule if a business has recently changed a product mix or if there has been a change in how food is served. For example, selling more hot prepared food or providing extra seating outside in good weather increases the percentage of food served for consumption. If the 80/80 rule does not apply for your restaurant, a best practice would be to evaluate sales at the end of every 90 days to determine whether the status has changed. If the 80/80 rule does not apply, then the following items sold to-go are not taxable: 1. Hot beverages sold separately and not as part of a combination package, such as coffee, hot tea, lattes, mochas, or hot chocolate. (Note: Hot soups are not considered hot beverages, they are hot prepared food products thus taxable) 2. Noncarbonated beverages, such as fruit drinks, milk, and iced tea 3. Cold food products, such as cold sandwiches, milkshakes, fruit smoothies, ice cream, cold salads, and cold bakery items 4. Hot bakery goods 5. Combination packages with two or more items that include cold food and a cold noncarbonated nonalcoholic beverage (any packages that include a hot food or hot beverage is taxable)3 Be aware, soda and alcohol are always subject to sales tax. KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
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Collecting Sales Taxes and Proper Reporting For restaurants that have delivery services, sales tax should be charged based on the customer’s address or zip code. This should equate to the amount collected from customers; however, the sales tax rates change frequently, leaving room for error. In the event that the actual sales tax rate is higher, the restaurant must pay the difference. For example, if a business charges a customer 9.5% in a location with a 10.5% rate, the business must pay the remaining 1%.4
KROST INSIGHT: Businesses that operate a restaurant in conjunction with a bar must ensure that all purchases and sales for the restaurant operations are segregated from the bar operations. Since the bar and the restaurant usually have different profit margins, an accurate segregation of sales and costs of goods sold will help determine whether the restaurant is realizing the desired percentage of gross profits. It will also help detect any leakage or pilferage.
Staying compliant is all about keeping accurate records, remaining on top of any changes, and meeting tax filing deadlines. It is good to research local laws to determine state, city, and county tax rates and responsibilities; as well as which POS system is the best fit for a bar, restaurant, café, or coffee shop. Very few restaurant owners are well-versed in state sales tax laws, but that’s okay. Business owners can invest in a POS system designed specifically for restaurants to simplify every aspect of day-to-day operations. Finding proper reporting and sales tax compliance can help defend restaurants in the event of a sales tax audit and save headaches. State Statistics - National Restaurant Association Annual Report 2016-2017 - California State Board of Equalization 3 Publication 22 - California Department of Tax and Fee Administration 4 CA City & County Sales & Use Tax Rates - California Department of Tax and Fee Administration 1 2
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Are You Prepared for the Unexpected? 71% of small businesses claim they are “very dependent” on 1 or 2 key employees. Only 22% have key-person life insurance. Insurance Information Institute, “Life Institute for Key Employees” 2016
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RISKY BUSINESS:
Safeguarding Your Most Valuable Assets By Steve Chhuor, CPA Manager - Assurance & Advisory
M
ost businesses understand that accepting card payments is an option that attracts customers who need a quick and easy payment option. The shift of payments from cash to card is a trend many businesses are accepting as the norm. In fact, some businesses have moved towards a cashless model and only accept credit cards. However, credit cards also expose businesses and cardholders to cybersecurity risks, as credit cards hold a wealth of valuable financial information. So how are businesses protecting cardholder data from falling into the wrong hands?
What is PCI? As part of an effort to protect cardholder data, the Payment Card Industry Security Standards Council (PCI) was founded by American Express, Discover, JCB International, Mastercard, and Visa. PCI created the PCI Data Security Standards (PCI DSS), which is a set of security standards designed to assist businesses that accept, process, store, and/or transmit card payment information in maintaining a secure environment. All businesses that accept or process card payments, regardless of business size or the number of card payment transactions, are required to comply with the PCI DSS. Failure to comply with these standards can result in hefty penalties and fines with the possibility of revoking payment card acceptance privileges. It is important to remember that the focus of PCI DDS is to protect cardholder data, not protect the organization as a whole.1
PCI and the Hospitality Industry In the hospitality industry, cardholder data is highly targeted and should be a high priority during an organization’s risk assessment. Cybersecurity should be a business-wide focus to provide protection to the organization and its employees. Business owners should view cybersecurity as a valuable best practice for business, rather than a compliance issue. Businesses face increasing cybersecurity threats and vulnerabilities as they seek to increase efficiencies through the optimization and implementation of technology. The hospitality industry is a large target for cybersecurity breaches since businesses maintain consumer data, such as credit card information, in their system. In 2018, Verizon reported that 90% of all breaches occurring in the hospitality industry were related to point of sale intrusions. These intrusions were often done through hacking and malware, and 93% percent of the time the data compromised was card payment information.2 For businesses, checking PCI compliance to ensure that PCI data security standards are being met and reviewing cybersecurity policies and procedures are excellent ways to ensure businesses are up to date on the industry’s best practices. 10
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58% 15% 96%
of all cybersecurity incidents are categorized as small businesses of all breaches involved the hospitality industry of all breaches are not detected. When detected, it is by an external source (such as common point of purchase or law enforcement)
Top security breach for hospitality? 2
POS Intrusion
Cost of Data Breach Fees and penalties: Breaches involving card data will add up quickly with the possibility of substantial fines and penalties from the credit card companies, forensic audits fees, legal fees, credit monitoring fees, and notification fees. Average cost: In a study by Ponemon Institute, the average cost of a data breach for small and medium businesses was approximately $2.2 million dollars, which is a combination of damage or theft of assets and disruption of normal operations.3 Reputation damage: After a data breach, businesses will find it much more difficult to hold onto current customers and attract new ones because of compromised data fears. Businesses in the hospitality industry that are looking to take measures toward securing and updating systems, should consider the benefits of a Cybersecurity Audit. Using the NIST Cybersecurity Framework or the AICPA Cybersecurity Framework, experienced specialists can provide meaningful recommendations to safeguard against attacks. ď Ž
Payment Card Industry (PCI) Data Security Standard Requirements and Security Assessment Procedures 2 2018 Data Breach Investigations Report 11th Edition - Verizon 3 2017 State of Cybersecurity in Small &Medium-Sized Businesses (SMB) - Ponemon 1
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KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
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Tax Breaks:
THE NEXT GREAT WINE PAIRING Guest Contributor: Tetyana Guguchkina Manager - Research & Development Tax Credit Services, KBKG
W
hile California has dominated the wine industry for decades, new regions across the United States are making waves as they delight wine aficionados here and abroad. According to the American Association of Wine Economists, the U.S. is home to over 12,000 wineries, amounting to an incredible $20 billion industry.1 With new tasting rooms popping up and creating competition, winemakers are experimenting with new ways to push the envelope and make their mark. And while winemakers or vintners know about wine pairing and barrel aging, they may be unaware of a tax credit that is ripe for the picking.
R&D Tax Credits for the Wine Industry The R&D Tax Credit is one of the most valuable, yet overlooked, credits leveraged by savvy businesses each year. The research credit is a federal benefit that is also available in many states. Winemakers can earn up to 13.5 cents for every dollar spent, enjoy a dollar-for-dollar reduction in federal and state income tax liability, and unused credits can be carried forward up to 20 years. Wineries creating new blends, optimizing bottling processes, and/or improving product quality are ideal candidates for the credit. 1
Mapped & Ranked: The States With The Most Wineries In America (2018) - VinePair KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
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SPECIFIC EXAMPLES OF QUALIFYING ACTIVITIES IN THE WINE INDUSTRY INCLUDE: • • • • • • • • • •
New or improved grape strains to achieve desired flavor or aroma profiles New or improved wine formulations New or improved soil and rootstock processes Improved irrigation processes Improved filtration and fermentation techniques New or improved bottling and corking methodologies Quality assurance testing Sustainable energy efforts Improved recycling and waste management techniques Organic ingredients, supplements, and nutrients
Recent Law Changes Make R&D Tax Credits More Valuable for Winemakers Monetization has never been easier. Qualified small businesses, like wineries, may now apply for the R&D Tax Credit against Alternative Minimum Tax (“AMT”). Additionally, qualified start-up companies may elect to use up to $250,000 of R&D credits against their payroll taxes. The R&D Tax Credit is an often overlooked and misunderstood tax benefit. Most tax preparers only associate R&D with technology, manufacturing, and pharmaceutical activities. Treasury regulations have substantially broadened the range of taxpayers eligible for the research credit. As a result, more companies can take advantage of these benefits.
Time to Take Advantage Wineries that produce their own product can easily confirm whether or not the activities qualify for the R&D Tax Credit and receive an estimate of the potential benefit. An assessment with a qualified tax specialty firm will ensure the project(s) meets the requirements of the four-part test which is used to determine eligibility. This federal benefit was enacted to promote innovation and, as a result, improves cashflow for early stage and well-established businesses so that they can continue to focus on new ways to grow.
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EXPERIENCE YOU CAN TRUST
1939 - 2019
YEARS Assisting thousands of businesses and individuals to reach their financial goals through tax, accounting, and consulting services.
Help us give back to the community as we celebrate this special occasion. We will be fundraising all year long on behalf of the Downtown Women’s Center (DWC).
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The Restaurant Technology Industry: Trends and Funding By Paren Knadjian Practice Leader - M&A and Capital Markets
O
ver the last ten years or more, customers have changed how they discover, book, socialize, interact, and pay at restaurants. As customers become increasingly reliant on smartphones for daily tasks, restaurants and technology firms have identified opportunities to offer customers more digital services. Restaurant discovery is no longer reliant on reading local newspapers. With crowd-sourced review forums such as Yelp and editorial-driven food blogs such as Eater, digital platforms are providing a more convenient and up-to-date service. Making a reservation is easier with services such as OpenTable or Resy, and provides an alternative to finding the telephone number to call a restaurant. Once a reservation is made, tech-savvy customers let their friends know via email, text, and/or social media. What if the customer wants to stay at home and still eat food from a local restaurant? No problem! Delivery services such as GrubHub and Doordash will deliver from virtually any restaurant within a specified geographic radius. However, restaurant technology, also known as Restaurant Tech, is not restricted to improving customer experience. Historically, restaurants were slow to incorporate new technologies due to narrow margins. This is changing as restauranteurs observe the benefits of technology. Rising customer expectations, along with a need to differentiate, have driven restaurants to incorporate new technologies to gain an advantage. Similarly, rising costs for labor and ingredients have forced restaurants to implement technologies to preserve and increase profit margins. As restaurants have adopted technologies at a faster pace, investors who have sensed a changing tide in a financially neglected industry have seized the opportunity to adapt.
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Deal Activity Since the beginning of 2014, there have been 1,447 deals in the Restaurant Tech space involving 751 companies for a total value of $65.88 billion.1
Capital & Deal Count 366
$30
Billions
$25
400 350
308
266
269
300
238
$20
250 200
$15
150
$10
100
$5 $0
50 2014
2015
2016
Capital Invested
2017 Deal Count
0
2018
Source: Pitchbook Data
Venture Capital Funds in the Restaurant Tech Space accounted for $20 billion in overall deal activity, the rest from Private Equity, Corporate M&A, and IPOs.1
Investment By Deal Type 14 12
Billions
10 8 6 4 2 0 2014
2015 PE
2016 Public Offering
2017 VC
M&A
2018 Source: Pitchbook Data
Pitchbook Data, Inc.
1
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These are the 87 privately held Restaurant Tech companies1 that have received the most venture funding segmented into four categories: inside restaurant, outside restaurant, kitchen operations, and business management. Although there are many more companies in the Restaurant Tech vertical, the maps and descriptions1 only list firms that received over $15 million in total invested capital within the past four years.
1. Inside Restaurant The main goal of these technologies is to make the customer experience more enjoyable and/or more convenient. For example, companies that facilitate mobile payment and modern Point-of-Sale (POS) platforms can speed up dining and takeaway processes considerably. Some restaurants are incorporating self-order kiosks. Customer loyalty programs provide incentives for repeat visits and help restaurants learn more about the customers they serve. Lastly, guest experience technology such as WiFi and music provide a more enjoyable experience for customers and guests.
2. Outside Restaurant Customers use technology to interact with restaurants without stepping through the door. This category includes discovery and review sites that help users to find new restaurants and to share their dining experiences with others. Ordering and delivery services are the largest segments by far, in terms of total invested capital. Reservation and waitlist companies have developed software that allows diners to make reservations and/or help restaurants manage their reservations and waitlists. Technology has also helped the catering industry, connecting restaurants with caterers who provide food and beverage services to schools, offices, etc.
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3. Business Management Companies in the business management sector are focused on managing and/or optimizing core restaurant business function and helping drive revenue and reduce costs. Management and CRM companies provide software and services that empower restaurants to manage their digital presence, engage with customers, and manage customer data. Restaurant management software provides managers with tools to analyze, automate, and optimize restaurant management and operations including vendor payments and tip management. Employee management software includes human resource (HR) management software that assists restaurants with employee scheduling and other HR activities.
4. Kitchen Operations This sector includes technologies focused on activities in the kitchen. Robotics companies employ autonomous robot hardware to automate specific restaurant functions such as meal preparation and delivery. Food safety and sustainability companies track and reduce food waste by either optimizing inventory and consumption or by creating markets for unsold restaurant food. Inventory management companies develop products and services that track, analyze, and manage restaurant inventory; which provides operators with actionable insights and tools to reduce costs and improve profit margins. Lastly, there are B2B digital marketplaces that connect restaurant buyers with food suppliers. Explore the Restaurant Tech companies that received the most venture funding.1
Conclusion Until recently, the restaurant industry was slow to incorporate new technologies due to low margins. But profit margins are up for many restaurants as organic, local, and high-end goods have allowed a greater markup, and technology has allowed for operational efficiencies. Rising customer expectations, along with a need to differentiate, has driven restaurants to incorporate new technologies to gain an advantage. Restaurants, bolstered by widening profit margins, have adopted technologies at a faster pace and this, in turn, has encouraged significant investments in the Restaurant Tech space. ď Ž
Pitchbook Data, Inc.
1
CONTACT PAREN ď‚„ KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
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OWNERS: Are you doing all you can to prevent fraud? Connect with our experts today. Our Restaurant Site Assessment is a detailed operational and financial practices review that helps restauranteurs identify and prevent potential fraud, theft, and loss. Our experienced specialists will conduct a thorough inspection of your operation and current employee practices, then compile a comprehensive actionable report. We will sit down and review our findings and recommendations. 20
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CALIFORNIA’S WAGE ORDER 7: What You Need To Know By Gina Gross KROST Restaurant Accounting & Consulting
M
any restaurants have on-call policies that require employees to call in to find out whether they need to work their scheduled shifts in advance of their start time. In most cases, if the employee is told not to come in, the employee is not compensated for the shift. This month, in the case of Ward v. Tilly’s1, the California Second Appellate Court overturned a Los Angeles trial judge and ruled that requiring workers to call in to find out if they have to report for work before they start triggers California’s reporting time pay law.1 In this case, the plaintiff was a retail employee who was required to call in two hours before a scheduled shift to see if she should report to work. The on-call shift had a start and end time. She did not get paid if she was told not to physically report for work. In the Appellate Court opinion,1 on-call shifts “burden employees, who cannot take other jobs, go to school, or make social plans during on-call shifts—but who nonetheless received no compensation from the employer unless they ultimately are called to work.” In siding with the plaintiff, the Court wrote that this practice is precisely what reporting time pay in Wage Order 7 was designed to discourage. Wage Order 7 requires employers to pay employees reporting time pay, as follows: “Each workday an employee is required to report for work and does report, but is not put to work or is furnished less than half said employee’s usual or scheduled day’s work, the employee shall be paid for half the usual or scheduled day’s work, but in no event for less than two (2) hours nor more than four (4) hours, at the employee’s regular rate of pay, which shall not be less than the minimum wage.”2 It is important to note that Wage Orders are issued pursuant to an express delegation of legislative power, which means they have the force of law. In light of the Court’s ruling that on-call shifts are considered eligible for reporting time pay, restaurant operators are encouraged to review and revise on-call policies with their HR professional or attorney that pertain to the compensation of employees who are told not to come in. As it stands now, employees who are “on call” but told not to come in must be paid at least two hours at the employee’s regular rate of pay. Businesses who require on-call shifts for staff, should be aware of and understand the impacts of the new law to ensure compliance.
Second Appellate District Court Opinion - Skylar Ward V. Tilly’s, Inc. 2 Industrial Welfare Commission - Order No. 7-2001
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COST SEGREGATION STUDIES FOR THE HOSPITALITY INDUSTRY: Does it Increase the Likelihood of Audit? Guest Contributor: Harry Sahi Manager - Cost Segregation, KBKG
A
common concern raised by business owners in the hospitality industry regarding cost segregation studies is whether it increases the likelihood of an IRS audit down the road. It’s well documented that these studies are accepted by the IRS if performed properly. However, there isn’t much evidence suggesting the implementation of a Cost Segregation study on a tax return, by itself, will trigger an IRS audit. KBKG’s Cost Segregation team has successfully defended projects on a number of IRS audits over the last 20 years and offers insight on the types of clients, industries, and fact patterns that have drawn interest by taxing authorities. Patterns over the last decade suggest that newly constructed buildings or improvements placed in service during bonus depreciation eligible years are reviewed closely. This makes sense because cost segregation studies can have a sizable impact on the amount of bonus depreciation claimed on a tax return.
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KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
For building projects placed in service in phases over multiple years where bonus depreciation eligibility rules change, taxpayers should ensure their cost segregation report clearly and separately demonstrates when each cost is incurred for each component. This issue was brought to light in Field Attorney Advice (FFA) 20140202F, Jan. 16, 2014, where a hotel owner was denied bonus depreciation, in large part, because the cost segregation provider they hired did not identify the dates the costs were incurred for each asset. Additionally, projects of all types; including restaurant chains, hotels, or other hospitality industry businesses; generating more than $10 million of additional depreciation in a particular year are more likely to be scrutinized by IRS engineers, although smaller projects certainly do get reviewed as well. Large fluctuations of depreciation in excess of $10 million can be generated by a number of factors including the filing of the Form 3115 Change of Accounting Method, where a taxpayer claims missed deductions from prior tax years. While the Form 3115 can alert the IRS that a cost segregation study has been performed, there is not enough evidence to suggest that filing Form 3115 should raise concerns.
Tax Insight Beginning in 2018, restaurant property can no longer be depreciated over a 15-year period. However, this is not applicable to other businesses in the hospitality sector that can still take advantage of a shorter depreciation schedule; and this does not negate the benefits of Bonus Depreciation. Under the new law, any building components with a tax recovery period of 20 years or less, are eligible for 100% Bonus Depreciation. Historically, Bonus Depreciation only applied to newly constructed property, but now it’s available for any acquired property. These components can be easily identified with the help of a Cost Segregation study.
When reviewing a study, the IRS is primarily concerned with the methodologies and procedures used to prepare the cost segregation analysis. As long as the study is performed by a qualified professional following the approved guidelines, it is less likely to have issues during the audit. When selecting a cost segregation provider for a restaurant, hotel, or other business, follow best practices. Research the background, qualifications, and resume of the person(s) signing the final cost segregation report. Ensure that the individual(s) performing the study is certified with the American Society of Cost Segregation Professionals (ASCSP). The designation for a Certified Cost Segregation Professional is “CCSP” and follows the engineer’s name, such as John Smith, CCSP. Be wary of using any cost segregation company who makes claims that their work meets IRS standards when they don’t employ engineers who have earned the CCSP designation.
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KROST QUARTERLY VOL. 2 ISSUE 2 - THE HOSPITALITY ISSUE
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KROST QUARTERLY MAGAZINE
With 80 years of experience, KROST has assisted businesses and individuals to reach their financial goals through their in-depth knowledge of Tax, Accounting, Assurance and Advisory, M&A, and Wealth Management Services. KROST also provides specialty tax services such as Cost Segregation Studies, R&D Tax Credits, Green Building Tax Incentives, Repair vs. Capitalization, Fixed Asset, IC-DISC, and more.
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