What Special Wage Rules Apply to Workers Who Customarily Receive Tips?

This is the third in a series of articles about wage and hour compliance. This article examines federal and state laws for tipped employees. Read the first part here and the second part here.

Wage and hour rules that apply to restaurant servers and other tipped workers are complicated and may leave HR professionals with many questions.

Can employers pay tipped workers less than the standard minimum wage, require workers to pool their tips, or deduct credit card transaction fees from charged tips? The answers may depend on state law.

Here are some pointers to help HR professionals comply with federal and state laws that cover tipped employees.

[SHRM members-only HR Q&A: Must a company pay tipped employees minimum wage for all hours taken as vacation time, or is it permissible to pay only the tip credit wage?]

Apply the Most Generous Rule

The federal Fair Labor Standards Act (FLSA) has rules that specifically apply to tipped workers, but state and local laws may be more generous. Employers should apply the most employee-favorable standard prevailing in a particular jurisdiction, said Ted Boehm, an attorney with Fisher Phillips in Atlanta.

That means multistate employers must decide between implementing several tip policies that mirror the patchwork of local, state and federal laws or implementing blanket nationwide policies that are based on the highest applicable standards, he noted.

"Among other things, state laws may differ from federal law when it comes to the lawfulness of tip credits, mandatory tip pools and credit card transaction fee deductions from employee tips," said Cheryl Orr, an attorney with Drinker Biddle in San Francisco.

She suggested that multistate employers consult with counsel to ensure that they are complying with the numerous restrictions imposed by federal and state laws.

Employer Tip Credits

Tipped employees are those who customarily receive more than $30 per month in tips, according to the U.S. Department of Labor's Wage and Hour Division. Under the FLSA, employers may pay tipped workers a cash wage of as little as $2.13 per hour—which is less than the current federal $7.25 minimum wage—as long as workers make up the $5.12 difference in gratuities.

Before taking advantage of the tip credit, employers must tell affected workers:

• The dollar amount the employer is paying tipped employees (which must be at least $2.13 per hour).
  
• The additional amount claimed by the employer as a tip credit (which cannot exceed $5.12).
  
• That the tip credit the employer is claiming can't exceed the actual amount of tips an employee receives.
  
• That all tips are to be retained by the employee unless there is a valid tip pool that is limited to employees who customarily receive tips.
  

The tip credit will not apply unless the employee has been told about these tip-credit provisions.

Orr noted that some state laws mirror the FLSA's tip credit requirements, while others impose different or more-stringent requirements. 

"There are a variety of ways in which compliance with the FLSA might differ from state law as it relates to taking the tip credit," Boehm said. The most obvious example is the cash wage that an employer must pay a tipped employee, as many states require an employer to pay a higher rate. He pointed to Florida as an example, which requires employers to pay a cash wage of $5.08 per hour and currently has a minimum wage of $8.10 per hour—though the state's minimum wage rates will rise in January 2018.

Other states, such as Massachusetts, Pennsylvania and Michigan also require employers to pay tipped employees a minimum cash wage that is greater than that required by the FLSA.

Orr noted that New York permits tip credits in various amounts based on industry and occupation. Alaska, California and Oregon prohibit tip credits altogether. 

"If state laws prohibit tip credits or provide for a higher maximum tip credit, state law controls," Orr said, adding that state laws also may provide different definitions of "tipped employees" and different notice requirements that employers must comply with before taking a tip credit. 

Credit Card Transaction Fees

Another complicated issue for employers with tipped staff is figuring out how to handle credit card transaction fees. Many customers now pay with credit cards instead of cash and so they also charge gratuities instead of leaving cash for tipped workers.

Credit card companies generally charge businesses a transaction fee of about 3 percent to 5 percent of the total bill. This means that when a customer leaves a $10 tip on a card, the business may have to pay at least 30 cents of that tip to the credit card company.

So can the employer deduct the charge and give the employee $9.70? "This typically depends upon the most employee-favorable standard prevailing in a particular jurisdiction," Boehm said. The DOL says that employers may reduce a credit card tip by the amount that is charged to the employer as a transaction fee, and some federal courts have embraced that position. 

Some states also permit such credit card transaction fee deductions, while others, such as California and Colorado, prohibit such deductions. Other states are silent on the issue. 

"Employers must not only determine if credit card deductions are permissible in the states in which they operate, but also ensure such deductions do not lead to minimum wage and/or tip credit violations," Orr said.

Mandatory Tip Pools

Hospitality businesses such as bars and restaurants may want workers to pool their tips to encourage team work and to balance shift earnings. But employers must follow strict rules if they require employees to share their tips.

Under the FLSA, employers may arrange a tip pool only for employees who customarily receive gratuities. This includes servers, bellhops, bussers and bartenders.

A valid tip pool may not include employees who don't regularly receive tips, such as dishwashers, cooks, chefs and janitors.

There are no limits on what percentage of workers' tips can be pooled, but the employer must:

• Notify tipped workers of any required tip pool contribution amount.
  
• Take a tip credit only for an amount equal to the tips each tipped employee actually receives.
  
• Not retain any tips for any other purpose.
  

However, many details regarding valid tip-pool arrangements are up for debate. "In recent years there has been increased litigation over employer tip pooling arrangements," Boehm said. 

The DOL and some courts have said that "back of the house" employees such as dishwashers, cooks and chefs generally may not participate in tip pools under the FLSA. But some courts have held that those workers may share in the tip pool if the employer doesn't take the tip credit and opts instead to pay at least the standard minimum wage to all employees who share in the pool.

The DOL has also taken the position that owners, managers and supervisors can't share in a valid tip pool, Orr noted. "Conversely, some federal courts have held that, absent a tip credit, owners and managers are free to participate in mandatory tip pools."

Further complicating matters, the DOL has proposed a rule to rescind its current restrictions on tip pooling by employers that pay tipped workers the full minimum wage.

Not only is federal law unsettled, but state laws may provide different or more stringent requirements on tip pooling including who may lawfully participate, Orr added.

"This is a rapidly evolving area of the law, so employers should keep up-to-date on future developments," Boehm said.

This was the third in a three-part series of articles on wage and hour compliance. The first installment examined federal and state record-keeping requirements for nonexempt employees. The second segment discussed the differences between federal and state overtime laws. 

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