The IRS ruling 2012-18 classifies automatic service charges (sometimes referred to as a gratuity or an automatic gratuity) disbursed to staff (e.g., servers) as wages, not tips. Although the ruling was issued June 2012, a grace period was allowed until 20 From January 2014 on, any restaurant that charges an automatic service charge must now treat the automatic gratuity paid to the servers as part of the server’s paycheck wage.
Key points from the ruling:
The IRS lists four factors, all of which must be present in order for the customer’s extra payment to be deemed a tip:
• The customer’s payment must be made free from compulsion;
• The customer must have the unrestricted right to determine the amount;
• The payment should not be the subject of negotiation or dictated by the employer policy; and
• Generally, the customer has the right to determine who receives the payment.
If the gratuity is deemed to be a service charge rather than a tip, under federal law, service charges:
• belong to the establishment
• become a part of the establishment’s gross receipts
• must be considered as income to the employer, and
• may be retained entirely by management or distributed to employees in any amount management chooses.
Service charges that get distributed to employees are treated as wages under federal law. Distributed service charges may be used to help employers meet their obligation to pay employees the minimum wage. However, a compulsory service charge cannot be counted as a tip and used as tip credit. Thus automatically added or mandatory gratuities, e.g., for large parties or catered events, are service charges, not tips, and employers cannot take a tip credit, even if management passes the gratuity to employees. Instead, the mandatory-gratuity receipts would be considered part of the employer’s receipts. Money paid from those receipts to employees would be considered wages rather than tips
Using TouchBistro to Manage Service Charges
If you are a US customer of TouchBistro, you should review your automatic gratuity settings in the Admin section.
1. Log in using the admin code.
2. Tap Admin | Admin Settings in the top right hand corner.
3. Tap Menu and tap Gratuity Settings.
4. Review the settings for Add gratuity/service charge for parties greater than or equal to and Default Gratuity (%).
5. If you’ve set up TouchBistro to add an automatic gratuity percentage for parties greater than or equal to a certain size (for example 6) or you set an automatic service charge for parties of any size (i.e., one patron or more), TouchBistro allows you to separate out gratuities (i.e., automatic service charges) from tips (that is “payment made free from compulsion”). So, simply tap Gratuity Mode.
6. Select Separate Gratuity from Tips.
Viewing a server’s automatic gratuities collected
After setting Separate Gratuity from Tips under Gratuity Mode, when a server generates a shift report, you will now get a break down of tips owed to servers and gratuities accrued during the server’s shift. To view these shift reports:
1. Tap Admin.
2. From your Admin Options menu, tap Staff List.
3. Tap each server in your staff list.
4. Tap the staff member to view the staff member’s shifts.
5. Tap the Information icon associated with shift you need to reprint.
Viewing all automatic gratuities collected
Under Admin | Admin Options | Reports can tap Labor | Credit Card Tips Report to view a tip report with the automatic gratuity (“Auto-Grat”) broken out.
Because administering automatic gratuities as wages can present a venue with extra paper work and a possible increase in payroll taxes, many larger US restaurant chains have eliminated automatic service charges in favor of suggested tip amounts (a “tip guide”) printed on bills.
If you have set up an automatic gratuity and now wish to eliminate the automatic gratuity, set Min. Part Size to 0 and Default % to 0.
Setting an IRS compliant tip guide
As the IRS ruling 2012-18 notes, a tip guide on guest checks does not restrict the customer’s right to determine tip amount. A tip guide is not a compulsory charge.
TouchBistro allows the inclusion of a tip guide. To setup a tip guide or adjust it:
1. Tap Bill & Chits.
2. Tap Edit Bills/ Guest Checks.
3. Tap Tip Guide and enable how you want your suggested tip amounts to calculate (before/after tax).
4. Enter three suggested tip percentages. If your default tips are 10%, 15%, and 20% and your previous automatic gratuity was 18%, you might want to adjust these to 15%, 18%, and 20%.
5. The Bill/Guest Check message area can also be reworded to suggest the appropriateness of an 18% gratuity for larger parties (say, 6 or more).
6. Tap Done.
7. Review how your Tip Guide and Bill/Guest Check message appear on your guest checks.
This document and linked third party documents should not be construed as expert or official tax advice or TouchBistro’s endorsement of any third party advice regarding how to adjust your business processes for IRS ruling 2012-18 compliance. Please consult with your business’s tax expert or accountant before you make any changes.