Restaurant Industry News: What's a Service Charge vs. a Tip?
How do you distribute your service charges to your staff? The California Supreme Court has an answer.
In a ruling issued in June 2012, the IRS determined that automatic gratuities (a percentage automatically added to a restaurant bill) are service charges, rather than tips, for tax purposes. Revenue Ruling 2012-18 also determined that to the extent any portion of a “service charge” is distributed to an employee, it is wages for FICA tax purposes.
As a result of this, automatic gratuities or service charges are no longer considered tips. Customers do not have a choice whether or not to leave a gratuity and are forced to leave a specified amount set by the employer, and the IRS sees these mandatory gratuities when distributed to the employee by the business as wages.
The California Restaurant Association disagreed with this ruling and filed an appeal to make sure it didn’t set the precedent in California for how restaurants and businesses distribute service charges. Their appeal was denied without a hearing or explanation last week. Since this ruling is now in effect, we want to help you make sure you stay in compliance.
Here’s how to make sure you’re in compliance with the ruling:
If you add a service charge to your guest check, all dollars collected from that check MUST be distributed to your service staff.
If you use a portion of the check for operational costs, you will have to disclose exactly where the money is going somewhere where your customers can see it. This means you’ll need to add language saying where the money will be going on your menu, on the guest check, or your banquet contracts. Restaurants do sometimes need those extra charges to cover other expenses but under this new ruling, we’d advise you not to do so or make sure you explicitly state what they extra money from the service charge is being used for.
Looking for more information about this ruling, the California Restaurant Association has resources for you to make sure you stay in compliance and up to date on any additional appeals or rulings.
