Under new program, restaurants can avoid audits of employees' tips.

As a result of two years of meetings between food service industry representatives and the Internal Revenue Service, an agreement was reached on tips reporting by employees--an area that has been a source of much contention.

The agreement is a "market segment understanding" (MSU). The IRS has issued several MSUs as part of an ongoing program in which discussions with representatives of particular market segments lead to written agreements on how certain issues will be treated. In addition to the one covering tips, MSUs have been issued on the classification of employees and independent contractors in the television commercial production and professional video industries and on the tax treatment of noncash payments to agricultural workers as wages.

IRS audits of restaurants focusing on employees' low tips-reporting rates have resulted in assessment of onerous back payroll taxes. Restaurants now can avoid audits by participating in the new MSU, called the tip reporting alternative commitment (TRAC). Generally, the industry considers the TRAC's provisions to be fairer to restaurants than a previous IRS program, in which only about 500 restaurants participate.

According to the IRS, 43% of tips received by waiters and other workers in the food service industry go unreported.

Here's a brief summary of how participation works: A restaurant agrees to establish a procedure for reporting all charged tips and to ensure that employees report cash tips. The restaurant also agrees to provide employees with quarterly training sessions on tips reporting. The IRS guarantees that tips reporting will not be a reason for an audit.

The IRS hopes about 10,000 restaurants will participate in TRAC.