There are differences between tips and service charges

We have been doing a bit of fall office cleaning and have been going through magazines and files. As we were doing so we came across an article that indicated that the Internal Revenue Service and the Social Security Administration had reviewed certain "service charges" and determined that they should not be treated in the same way as "tips". This is important for restaurants that automatically add a gratuity on to the bills of large parties as well as those that add a service charge on to banquet checks and this is especially important in states where employers may take a tip credit against wages paid to tipped employees.

In order for a "tip" to be a "tip", it must be something that a guest freely and of their own accord adds to a bill. When the guest makes the decision as to what to pay, the employer can collect it and pass it on to the server(s). If the business automatically adds some sort of charge, no matter what it is called, to the bill that is a "service charge". Service charges may not be used as part of a tip credit. There are also some possible issues with how the two are treated with respect to Social Security (FICA) taxes.

What is recommended to keep restaurants and caterers out of trouble is one of the following strategies: 1) provide the check with a range of gratuities - 15%, 18%, and 20% and allow the guest to indicate which they would like to pay. This allows the amount to be considered a "tip" and it can be collected and paid to the employees and can be used to raise the hourly rate from the lower tip credit wage to the minimum hourly wage (or greater); or 2) pay banquet staff an hourly wage above minimum wage and charge a "service charge" on the bill, which may be distributed as desired.

Please note that there may be different state or local regulations with respect to what to call these fees and how they must be distributed and we advise you to check with your financial and legal advisors!

Posted: to Latest Wheelwright News on Sun, Sep 10, 2017
Updated: Sun, Sep 10, 2017