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Editor: Paul L. Caron, Dean
Pepperdine University School of Law

Friday, September 6, 2013

WSJ: IRS Rule Leads Restaurants to Rethink Automatic Tips

TipWall Street Journal, IRS Rule Leads Restaurants to Rethink Automatic Tips:

An updated tax rule is causing restaurants to rethink the practice of adding automatic tips to the tabs of large parties.

Starting in January, the IRS will begin classifying those automatic gratuities as service charges—which it treats as regular wages, subject to payroll tax withholding—instead of tips, which restaurants leave up to the employees to report as income.

The change would mean more paperwork and added costs for the restaurants—and a potential financial hit for waiters and waitresses who live on their tips but don't always report them fully.

Darden Restaurants Inc., owner of Olive Garden, LongHorn Steakhouse and Red Lobster, has long included automatic 18% tips on the bill for parties of eight or more at its more than 2,100 restaurants, but is experimenting with eliminating them because of the IRS ruling, said a spokesman. ... "I think the vast majority of restaurant owners will discontinue the practice," says Denise Wheeler, an employment attorney in Fort Myers, Fla., who represents several restaurant chains. ...

The change comes amid increasing costs and record-keeping requirements for restaurants. In January, restaurants with 50 or more full-time workers will be required to offer health coverage to employees working 30 or more hours a week, though penalties don't begin until 2015.

Restaurants adopted automatic gratuities to help ensure that their servers—whose tips supplement a salary that is often less than the federal minimum wage of $7.25 an hour—weren't stiffed on large tabs. But many servers are likely to support dropping the practice because they don't like the idea of their tips being treated as wages, which requires upfront withholding of federal taxes, and means they won't see that tip money until payday.

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My restaurant owners already withhold on tips. With 90% plus being via credit card, I don't see how you could not report it. Also, servers are 'tipped out" in cash every night.

Posted by: Brian McNamara | Sep 6, 2013 6:41:31 AM

I assume they are still subject to the FICA tip credit?

Posted by: RM | Sep 6, 2013 9:11:29 AM

I have sympathy for servers trying to get by on tip income, but blatant tax evasion is not the solution here.

Posted by: HTA | Sep 6, 2013 9:54:41 AM

You can tell just from the copy of the receipt above that we are talking fat cats who don't want to pay their fair share of taxes. This whole country would be better off if those selfish millionaire and billionaire waiters and waitresses would stop being so stingy.

Posted by: Diggs | Sep 6, 2013 2:29:54 PM

Blatant tax evasion is not the solution? Then why are we discussing tips?

Posted by: Ed | Sep 6, 2013 2:42:25 PM

How about restaurants paying a reasonable wage and going to a no tip policy.

Posted by: Garrettc | Sep 6, 2013 2:58:14 PM

Blatant tax repeal could be.

Posted by: askeptic | Sep 6, 2013 3:12:41 PM

This is nothing compared to California rules...any mandatory 'service charge' for a tip that is added to the check is also considered a SALE along with paying the payroll taxes, on these tips, the business also has to pay sales tax on the amount.

Posted by: SaraB96 | Sep 6, 2013 3:56:33 PM

Former Darden employee here and the automatic gratuity was a godsend... people don't realize that it becomes exponentially more difficult to serve a table as table size goes up. For especially large groups, we would often have a server serving just that table so if the table doesn't tip 18% (or tips nothing at all) you're screwed.

I guarantee you the majority of waiters would rather have that automatic gratuity stay on the bill instead of being able to under report tips, which the article seems to imply is a common practice.

Posted by: Former Waiter | Sep 6, 2013 4:22:44 PM

What restaurant charges only $38 for more than 2-3 people except for fast food/non-tipped restaurants? This is a huge non-story and the restaurants are making a huge nothing something... The number of large tables that get auto-assessed a gratuity are not significant enough to reduce the waiters/waitresses tip tallies... And, it makes more of the money taxed right up front and less that they actually have to report... Come on!

Posted by: Jacob | Sep 6, 2013 4:40:49 PM

Blatant tax evasion is only allowed for Democratic politicians.

Posted by: PTL | Sep 6, 2013 4:46:58 PM

I wonder whether or not the rule will also apply to the automatic gratuity attached to the tab for a cruise. Those gratuities can be $20+ per day per person.

Posted by: Charles Caro | Sep 6, 2013 4:51:06 PM

Taxing income, is DIRECT Taxation period.

Posted by: Timothy P Kane | Sep 6, 2013 5:01:51 PM

After just being on a vacation to the USA, I was surprised to see this on my bill. The service was not always along with the meal worthy of the gratuity requested. A real put off !!!

Posted by: Lesley l | Sep 6, 2013 5:14:11 PM

I'm a Kiwi and that word "gratuity" makes me sick in this day and age. Where is it?

Posted by: MarkPhillip | Sep 6, 2013 5:14:54 PM

Tax avoidance is perfectly okay. Tax evasion lands you in jail or in a lawsuit (think the Swiss bank UBS).

Posted by: Karen | Sep 6, 2013 5:17:32 PM

Why are we chosing low income earmers to target for tax revenues?

Posted by: kg | Sep 6, 2013 5:28:06 PM

@HTA: I have sympathy for governments trying to raise money so they can invade the hell out of every third world country in existence to try and provide a circus to draw attention away from the ongoing installation of a police state, but blatant taxation of the lowest wage earners is not the solution here.

Hey, that's neat! The argument works there, too!

Posted by: Terry | Sep 6, 2013 5:28:47 PM

If customers provided cash tips, the servers can do anything they want with that money. This is why I always leave cash tips. The IRS is not going to waste its time tracking down cash tips.

Posted by: Nate | Sep 6, 2013 5:30:28 PM

What no one seems to remember is that when Reagan decided to tax tips in the eighties there was a mandate that all tipped employees would make at least minimum wage. since then, tipped employees were shoved back into deeper poverty by being paid less than minimum wage again with no tax relief on their tips. Greed is a terrible thing and it never ceases to amaze me how many people with blame our lower paid citizens for the troubles in our country.

Posted by: Christy | Sep 6, 2013 5:54:01 PM

"Why are we chosing low income earmers to target for tax revenues?"

Because that's where the money is. You could confiscate the fortune of every billionaire in the country and it would pay the government's bills for 90 days or so. They could institute a 100% tax on all income over $1 million a year, and it wouldn't be enough to balance the budget.

Posted by: John Skookum | Sep 6, 2013 5:54:01 PM

While I empathize with waiters and waitresses trying to make ends meet my beef with automatic gratuity on a bill is that the gratuity should reflect the level of service. If it is poor you should be able to reflect that in less of a tip, if the service was exceptional you should be able to leave more. As far as these changes the only reason I see companies stopping this practice is so they don't have to deal with it.

Posted by: Alex | Sep 6, 2013 6:00:41 PM

Only the right thing to do. Now the IRS needs to address the fact that the fat cats who should be paying those "service charges" as a matter of course, get their carried interest taxed as income. Afterall, that is what it is.

Posted by: Guillermo Cockrum | Sep 6, 2013 6:07:17 PM

a tip used to be a thank you measured by the quality of service. i'd like for it to go back to being that way. might improve the attitude of some servers.

Posted by: gina | Sep 6, 2013 6:33:09 PM

Even more concerning is the general expectation of tipping on top of tax. Why should a patron tip restaurant service for the required State tax one pays which is independent of the service??

Posted by: cash | Sep 6, 2013 8:10:49 PM

As a person who got through college and grad school as a server, I have always thought the dilemma was that at no other type of business does the customer decide how much or whether they'll pay for the service or not. You don't pay less for your groceries if the check out clerk is rude. That dress costs the same amount whether or not the person who let you into the fitting room was friendly. But the restaurants have shifted the burden of paying their employees to the customers and so everyone thinks they get to decide whether their server was sufficiently subservient, or friendly, or attentive, or whatever. They want to pay for attitude rather than the server's work. What I always did was declare %15 of my gross receipts each day as income. Somedays it was probably less than what I really made in tips, and some days, it was more. If everyone is so concerned about servers paying the absolute correct amount of taxes on their income, you should be willing to pay more for your meals and require the restaurant to pay servers an actual living wage.

Posted by: susan | Sep 6, 2013 8:19:01 PM

Definition of GRATUITY
: something given voluntarily or beyond obligation usually for some service; especially : tip

Posted by: B | Sep 6, 2013 8:29:21 PM

A tip is an optional gift for exceptional service, not mandatory charity for underpaid servers. Tipping should not happen automatically unless the customer is warned about this surcharge before ordering. On the other hand, paying servers less than minimum wage should also be illegal. If the restaurant can't afford to pay a decent wage, include the cost of the tip in my food. That way, neither the server nor the restaurant are evading taxes.

Posted by: Vera | Sep 6, 2013 8:46:30 PM

How about we go to the past to receive a tip the quality of service. Would have to be good. I would like it to go back that way. Maybe it might improve the attitude of some servers.
While I empathize with waiters and servers, trying to make ends meet but why don’t they get a skill or trade or look for a better job that does not require them to live off tips.
My beef with automatic gratuity on a bill is that the gratuity should reflect the level of service. If it is poor, you should be able to reflect that in less of a tip, if the service was exceptional, you should be able to leave more.
However, for the business to make me give a tip is out of the question, and I won’t go to a place that does because even though we do give tips when the service is good you have to remember that’s are money and our choice and that our money.
We worked for it, no one just dropped out of the sky and gave us that money, please stop being a bum and get of your backside and get you a skill that you can make more money because the world or I owe you anything.

Posted by: Paul Hicks | Sep 6, 2013 8:52:12 PM

Great, maybe now the servers will actually give you good service... every time that automatic tip has been added you get no service whatsoever. Now if they get rid of that automatic tip they will actually do their job and work for the tip.

Posted by: nick | Sep 6, 2013 9:26:03 PM

I am 100% in support of this new IRS rule. Restaurant owners (and others) have abused the underlining fundamentals of TIPS to support false advertising and bolster their profits. In just about every industry all costs are built into the final advertised product and or service sold. Going into a restaurant and looking at the right hand column has become worthless since the real cost of your night out is handed to you like some type of surprise parting gift. How about this as a novel idea… Pay your works according to the law (minimum wage) , and yes they should pay tax and other fees since there are minimum wage employees in other industries that are required to pay. Let the cost be reflected as the true price of the product I am buying, and let me decided if the server is entitled to an uplift in their income based on how they treated me…..

Posted by: Nigel | Sep 6, 2013 9:58:54 PM

Why should a tip be forced? Whose brainchild was it to make it legal and give it the name of gratuity?

We all serve in our jobs everyday, be it eateries, offices, hospitals, whatever...are we tipped for every service we render on a day to day basis? Arent we HIRED TO DO JUST THAT? Why expect to be paid extra for the job when you agreed to do that job for the pay offered to you?

Why this special consideration for hospitality servers? Every person feels his or her salary is not adequate and needs support - does it mean everyone, in every industry should be paid 'tip'?

Gratuity is a component of salary slip which EMPLOYER pays to the employee for sertain years of service. Why is this buck of financial responsibility passed on to the customers in the name of social culture, etiquettes, mannerism, morals and so on?

Ddo you go around and tip everyone who is paid less? Then may be every worker in every industry should be paid TIP by all of us! Honestly I havent seen such an absurd thing as COMPULSORY TIPPING except in this western world where servers at times make faces and pass nasty comments if you forget to pay tip or leave less tip! As if you have done a crime!! Whose job it is to take care of employee's salary? Certainly not consumers, they have been billed enough with all possible taxes!

And its time servers also live with pride by saying no to tip. They should keep up their self respect by saying that serving is what their job is all about.

This form of tipping is no less than sophisticated form of begging, a practice probably started by someone in good intent, but which has now become a menace and burden for consumers. Giving tip satisfies a big ego for giver and reduces its receiver to a begger when forced this way.

I wont be surprised if someday customers demand 'gratuity' for consuming the service!!!! After all, their money doesnt grow on tree!!! Whill servers pay 'TIP" to customers for spending money and making purchases? Afterall, if customer doesn't buy, employer doesn't earn, if employer doesnt earn good, he wouldnt pay servers good and may be server woudl soon not be needed at all! So who should be tipped????!!!

Wake up and stop these extortion, and let tipping be what it is meant to be...rewarding someone out of joy and satisfaction. Not money extorted at 'gratuity' gun point and social etiquette!

Posted by: Arti | Sep 6, 2013 10:35:44 PM

It's the 21st century. Time to end the practice of tipping and for employers to pay their staff decent taxable wages. Why are restaurants thought different to other service providers? They're servers, not servants.

Posted by: R | Sep 6, 2013 11:45:27 PM

The older I get, the more the federal government comes to resemble an organized crime racket.

Might explain why the FBI was so keen to take out the mob, they hate the competition.

Posted by: Lee Reynolds | Sep 6, 2013 11:56:09 PM

Good. Restaurants have no right to automatically demand a set amount for tips. I tip based on quality of service and food. If either is lacking, the tip gets adjusted, to send a message. This culture of entitlement has gone far enough.

Posted by: M Hicks | Sep 7, 2013 6:02:07 AM

It is getting increasingly difficult for employees to avoid paying taxes on tip income, especially when the customer uses a credit or debit card for their purchase (the gratuity is documented). In my opinion, this has more to do with the federal government’s desire to collect payroll tax revenue on a quarterly basis directly from the employer than to wait until April 15th of the following year and hope to collect it from the employee.

Posted by: Richard Persing | Sep 7, 2013 6:28:26 AM

Completely agree with Garrettc. Restaurants should pay a decent wage, service should be a cost of the business covered by the food and drink sold, not by tipping. Customers should not be expected to tip but rather tip if they want for exceptional service, over and above a high expected norm.

Posted by: Martin | Sep 7, 2013 6:46:16 AM

If the waiters and waitresses don't like this rule, why dont they go to college and get a better job?

Posted by: steve | Sep 7, 2013 6:50:29 AM

Most servers make a sub-minimum wage, which tips are supposed to fill the gap for. So when folks do not tip, it's the servers & their families who lose out. See: &

Posted by: Sarit Jaela | Sep 7, 2013 6:58:15 AM

Throughout Europe, service is included in the menu items and is used to pay servers a decent wage and benefits. If service is extraordinary, the practice is to leave an extra 5-8% in cash. Perhaps its time to rethink current practices.

Posted by: Scott Herzog | Sep 7, 2013 6:59:46 AM

We could get away with all those boring wages, sales taxes and medical plans by having the patrons tip not only the servers, but also walk through the kitchen and office to tip the cooks, the dish washers, the receptionists, the managers.

Posted by: Gen | Sep 7, 2013 7:30:20 AM

I figure most folks probably didn't recognize the context of Mr. Kane's comments about direct taxation:!/articles/1/essays/64/direct-taxes

Posted by: VWood | Sep 7, 2013 7:49:51 AM

This has a broader reach than you might think. In some instances, the restaurants do treat this as a service charge - pocketing a portion of the 18% and passing on some to the employee. In one firm, the restaurant would gross up the employee pay to minimum wage with "forced gratuities" and then pocket any overage.

Posted by: Tom | Sep 7, 2013 8:03:46 AM

More of the same nonsensical opposition to tipping by the socialists. The motive, which they will never admit to, is not the myriad set of bizarre, childish and petty excuses they come up with, but merely the fact that tipping allows one waiter to earn more than another because he/she happens to work in a restaurant that does more business, or is more expensive, than another. This cannot be allowed in socialist utopia land. Everyone must get the same. The practice of tipping (aka paying the server for the work they do directly) benefits the employee. You don't see them complaining about it. The busier the place is, the more they work, they more they earn. That’s what these childish, stupid, petulant, meddling socialist twits have a problem with. Instead of taking in $40-50/hr on a busy night, they’d rather they get their flat ‘living wage’ of $15 or whatever. Wow, big friend of the working man there, progressives. It’s a practice that has been in effect for decades and, as said, benefits the employee. Naturally, this means it must be destroyed, according to these insufferable idiots.

What kind of logic is it to say you are willing to pay more for the meal if the waiter’s wages paid by the restaurant are higher, but object to just handing the same amount straight to the waiter? The restaurant has shifted the burden of paying their staff to the customer? This has to be the dumbest thing I’ve ever heard. The restaurant gets all its money to pay for anything from the customers. Where else do you think it comes from? But you’d rather give it to the restaurant first instead of directly to the waiter and letting them keep it? And you claim to be on the side of the working man? Baloney.

Posted by: Landru | Sep 7, 2013 10:56:46 AM

I think that when you dine in a restaurant the cost of paying the employees, food, and sales tax should all be included on the bill. That way there aren't any surprises and no debate on how much the tip should be. I'm sure the cost of going out to eat would increase exponentially but it wouldn't feel like so much of a power struggle just going out to eat.

Posted by: Vick | Sep 9, 2013 7:24:00 AM

The motivating factor to the change in treatment by the restaurants is that the restaurant would have to match the fica tax if the required gratuity is treated as wages. It is a company expense issue more than an issue of whether the waiters report the tips. Fica is withheld for reported tips, but is not all matched by the employer.

Posted by: Jay | Sep 9, 2013 7:38:51 AM

I have a few comments to make, not about the new rule, but to those that have already posted. I worked as a server to get myself through post secondary, and even still work part time for some extra cash aside from my normal income.

1) To those that say "why don't they get a better job" most servers are working there while they are in school to get themselves a better job. Don't be so ignorant.

2) I 100% agree that tips are optional and should only be based on level of service. I have actually refused to accept tips from tables if I know I did not give them decent service. On that same note, a LOT of times, people do not tip based on service. I could give a table OUTSTANDING service and still get less than 10%. That is where I begin to agree with mandatory gratuities. If you have a large table and their bill ends up being a couple hundred dollars and they do not tip adequately not because you gave bad service, but just because they're cheap, then the server has to pay out of their own pocket (thanks to tip outs) to have the customer dine in your restaurant and that is also unfair. Might as well give them my credit card and tell them to go shopping.

Posted by: JNT | Sep 9, 2013 9:50:08 AM

To answer someone's question above- the automatic service charge will no longer qualify for the TIP/FICA credit for employers. I'd say this is a bigger deal than forcing employees to report all of their tips which they should be doing already. How can we complain about something they should already be doing?

Posted by: Katie | Sep 9, 2013 3:47:51 PM

Challenge the system to obtain transparency.

Posted by: Coco Lettiery | Sep 12, 2013 6:25:35 AM

I have witnessed first-hand the level of service received in countries where tipping servers is not customary. We don't want to do away with tipping food servers.

Posted by: GNS | Sep 12, 2013 7:15:42 AM

I believe you can usually change the automatic tip on the receipt if you were not satisfied or simply change the total at the bottom and if not, then why don't you ask to talk to the manager and they will usually allow you to tip less if the service was not that good.

Posted by: JB | Sep 21, 2013 5:46:06 PM