“How are service charges and autogratuities different from tips? How are they taxed and reported? Help!”
Tips
Tips include cash, credit payments, and other gifts, freely given to a worker by the customer, at the customer’s discretion. For a tip to truly be a tip, the following must be true:
- The tip must be given without compulsion and cannot be the subject of negotiations or salon policy,
- The customer determines the amount, and
- The customer determines who gets the money. (The only exception to this last factor is a proper tip pooling agreement.)
Tips are protected by federal law and must be distributed to the employee directly unless there’s a valid tip pooling agreement. Tips are generally considered the sole property of the employee.
Aside from the necessary payroll taxes and those permitted by state law, employers are not permitted to deduct any portion of the employee’s tip income.
In the beauty industry, most of us are considered “directly tipped employees,” meaning that our customers tip us directly. “Indirectly tipped employees” are workers who don’t typically receive tips from customers (like receptionists and assistants). Indirectly tipped employees generally cannot be part of a valid tip pooling agreement.
A tip pooling agreement requires all employees to contribute a portion of their tips, which are then divided among a group of employees. This group typically can only include employees who customarily receive tips, and can never include the salon owner or manager. The amount must be customary and reasonable and the employee must be making at least the prevailing minimum wage.
The FLSA prohibits any arrangement between the employer and the tipped employee whereby any part of the tip received becomes the property of the employer. The FLSA doesn’t impose a maximum contribution amount or percentage on valid mandatory tip pools, however, employees must be notified of any required tip pool contribution amount and the employer is still prohibited from retaining any of the employees’ tips for any other purpose, unless that purpose is expressly permitted by any applicable state laws.
Service Charges/Autogratuity
Service charges and automatic gratuities are not tips, and an employer calling it a “tip” does not make it so. Service charges are not optional, determined by salon policy, distributed at the employer’s discretion, and are not protected by federal law, meaning that the business owner can claim any portion of the fee and isn’t required to turn it over in full to the employee. According to this Nolo article, “The law generally considers this part of the contract between the patron and the establishment, not a voluntary acknowledgment of good service by an employee.”
Employers choose how service charges are distributed or if they’re distributed at all. However, some states (New York, for example) require companies to surrender all mandatory service charges to their employees unless they clearly communicate to customers that the company is keeping the money. In Washington, companies are required to inform customers on menus and receipts what portion of their service charges goes to the workers.
Deducting Credit Card Fees from Tips
Federal law permits employers to deduct the cost of credit card fees from tip amounts, but this charge on the tip may not reduce the employee’s wage below the required minimum wage. The fee charged must only account for the fee on the tip amount, not the amount of the entire bill. However, some states prohibit deductions of any kind from tips, including credit card fees (California is one of them), so check your state law.
Reporting
Both directly and indirectly tipped employees are required to report monetary tips (cash/credit) to their employer, unless they’ve earned less than $20 that month in tip income. Non-monetary tips (like show tickets or other goods) typically don’t have to be reported. All monetary tips are included in the employees’ gross income and are subject to federal income taxes, so employers are required to withhold and remit the appropriate employment taxes.
Service charges that employers distribute to employees should also be treated as regular wages for tax withholding and filing requirements.
This post is nothing more than a reference, so there are no opinions in here, and regarding the practice of tipping, I have quite a few strong ones.
If you’re looking for the IRS page on tips and tip reporting, you can find that here.
The Department of Labor Fact Sheet on tipped employees can be found here.
Have any questions about tips? Hit the comments and I’ll be happy to point you at some references!
23 Responses
I’m a commission (50%) employee, but my employer charges a 10% “service fee” (at one time it was called a product fee) to all services offered. This “service fee” is NOT posted on any brochures, in the employee manual or as a payroll deduction. Example if a service is $55.00 – $5.50(service fee) = 49.50 x 50%= $24.75 (my share of service or 45%) Is this legal? The main concern is that the client doesn’t know that 10% of the price is a service fee, plus it as lowers my income. In the past of employer has increase service costs but also increased the “service fee” and my pay remained the same. Even though I was told I was getting a raise, because of the price increase.
The way the fees are being deducted is often considered legal, since it’s being removed from the ticket total prior to your split being calculated, however, this isn’t true if you’ve been promised 50% of gross upon hiring. At that point, the crime being committed is deceptive hiring. (You’re being hired under the belief that you’re making 50% of gross, when that’s clearly not the case.) The same applies to these “raises.” If your service fees are increasing and the net result isn’t a raise, you’re being lied to, and that’s certainly not legal. Additionally, these deductions should be appearing on a detailed wage or sale statement at the end of your pay period. Whether or not it’s legal to withhold that information is questionable, but I’d insist on it if I were you. I’d tell the owners that I expect a detailed sales report with the fees outlined on it, to accompany my paychecks. Otherwise, how will you know whether the fees are being assessed and calculated properly?
At a salon meeting last night we (the stylists) were told that “it is now MANDATORY that we tip $3 to our receptionist every night at the end of our shift”. There are 22 stylists in our shop: that equals to $60 a month X 22 employees = $400 bonus every month to the receptionist.
We’re a paid 42% of a $25 haircut = $10.50- $1 service fee = $9.50
As you can see we don’t make much money and this is in California! where the cost of living is among the highest in the country. So for us to pay $60 a month to the receptionist is a big financial burden.
Is it legal to make us pay a mandatory payment to the receptionist at a financial burden to ourselves? We are all commission employees.
I’m also not aware of any other industry that where people with schooling for a trained professional skill must tip out the receptionist ex: medical doctor, dental hygienist, car mechanic, electrician etc.
Thanks
Not legal, especially in California. Luckily, there are a ton of resources in CA, so get in touch with a representative at your local labor board and they’ll help you through it.
Thank you so much for the reply!
In waiting for your reply, I did contact the labor board and was told that it was legal as long as, if after the payment to the receptionist, my wages amount to no less than minimum wage. In doing the math, my wages are above minimum wage after paying them out however, the receptionists are now making more money than I am and 1/3 – 1/2 of their income is now tax free thanks to the MANDATORY tipping we (the stylists) must now provide them.
Can you direct me to the article where is specifically says that it is illegal? I would love to show this to the owner of the shop.
Many thanks.
Okay, so here are the tip laws for California.
In them, it states that the tips belong 100% to the employee and that the employer has no claim to them whatsoever. However, in 2013, the tip pooling laws changed. Now they read:
“your employer can require that you share your tips with other staff that provide service in the restaurant so long as the employees that share in the tip pooling policy are employees to whom the tip was paid, given, or left for. In this regard, the courts have validated policies that distributed tips among employees who provide “direct table service” or who are in the “chain of service” provided that employee in the chain of service bears a relationship to the customers’ overall experience. (updated March 2013).”
However, I find this questionable, particularly in a state that considers tip income the property of the employee so fiercely. For one, in this example, they’re not including ‘hostesses’ in the tip pool, which is our equivalent for a receptionist. For two, employee compensation is the employer’s responsibility–not the employee’s. For three, there’s this (also from California’s tip laws):
“Your employer can neither take your tips (or any part of them), nor deduct money from your wages because of the tips you earn. Furthermore, your employer cannot credit your tips against the money the employer owes you.”
So, the employer cannot take your tips or any part of them, or claim tip credits to offset your wages, but they can take your tip income to offset their wage obligation for another employee? That isn’t consistent with their laws, so I’d contact an employee rights attorney for clarification, if I were you. The 2013 update is new to me, but it seems like it was the only thing updated. Existing regulations directly counter that amendment.
Yes, thank you abundantly for the new information.
When I called the Labor Board, they did say that the receptionist was part of “the customer experience”.
And yes, it all reads very contradictory. It’s hard to understand what is correct and how to interpret it all.
Tina, thank you so much!!
You’re welcome! 🙂
Does the employer need to have a document from the labor department in ct to deduct a head charge before paying commission?
The labor commissioner needs to approve a written agreement to deduct fees from employee wages, but if the fees are being deducted from the gross sale and you were informed that you were going to be paid a commission on net sales, the fees aren’t being taken from your wages, so no agreement is required.
I am working for commission at my salon. Whenever customers tip with credit cards, we get a percentage deducted for the credit card service fees from every transaction. Also we receive tips left with credit cards on our paychecks, which are bi weekly. Now to my understanding this is illegal. Is it illegal or not? I’ve been reading about this for months now and I’m not sure if I should let the salon owner know about this. I don’t want to be fired but im pretty fed up. Also I am in California. Please help, thank you.
If you are in California, you are in one of the few states where it is not legal for an employer to deduct the cost of credit card fees from tips.
“Under California law, the employer has to give the employee the full tip left by the customer and pay the entire credit card processing fee itself.”
https://www.nolo.com/legal-encyclopedia/california-laws-tipped-employees.html
So, I worked at a spa that used to ASK clients for a 20%”suggested” gratuity. They counted tips as part of our salary. Now I hear they are NOT giving the therapists tips clients leave.
How can this be legal??
It’s not. If the receipt declares the gratuity a gratuity (and not a service fee), that money is yours.
Is it legal for a business NOT to give a therapist tips given by customers?
No. Federal law declares that tips are the property of the employee. Only legal tip pooling arrangements are exempted.
I am a commission employee the salon is NOT FLSA compliant. My owner is withholding my credit card tips until the end of the week when normally they are paid out at the end of the day. Is there any laws against this? Can my employer determine when I receive my tips.
Unless state laws say otherwise, employers typically can choose when to distribute tip income. Many wait until the end of the pay period and include the tips in paychecks to ensure they report and tax the tip income properly, and meet their prevailing wage obligations. If this isn’t the case in your salon, I’d be monitoring the checks carefully. Tip theft is really easy for salon owners to commit.
I’m an employee. Salon 40% commission of services. After being employed for a few months, I noticed my employer takes 12.5% of my tips. I’m assuming this is a product charge, but I have not asked my employer about it. I never received an employee handbook. Wisconsin.
Hi there! Unless the 12.5% are deducted for employment taxes (which I doubt, unless your state employment taxes are nearly 5%) these deductions from your tips likely are not legal. Federal law assures that tips are the property of the employee. The only exception is when a valid tip pooling agreement exists. In some states, it is legal for the employer to deduct the cost of credit card processing on tips made by credit card, but we can be certain that isn’t the case in your situation, as NO merchant services company charges 12.5%. (Generally, they charge 2-3%.)
Ask about those deductions immediately. Your tips are wages. Any unlawful deduction from them constitute wage theft.
The salon I work for is scheduling too many stylist per shift and we’re often forced to stay at the salon for our entire scheduled shift, cleaning, folding towels and what not. We are commissioned. If our average weekly commissions are not greater than what we would make at$10hr she pays the difference, but she is including our tips in this. Is this practice legal? We aren’t waitresses. Why is she taking our tips?
Yiiiiikes. Okay, so she can probably claim a 3M tip credit (since we do meet the standard for being considered “tipped workers”), but that’s extremely questionable. The federal guidelines define tipped workers as ‘any employee engaged in an occupation in which he or she customarily and regularly receives more than $30 a month in tips.’ This effectively means she can compensate you at the tipped minimum wage, commonly referred to as “server’s wages.” Apparently, she’s set that base rate at $10 (which isn’t much better than server’s wages, IMO), but taking a tip credit is a real shitty look, considering that tip credits are typically only applied to completely uneducated, entry-level workers whose tip income is substantial. I wrote more about this topic more here, so I recommend reading this article. What she’s doing is likely legal, but tacky.