When large parties dine at the Olive Garden or LongHorn Steakhouse, it’s customary for the restaurant to add a 15-20 percent automatic gratuity to the check at the end of a meal. These automatic gratuities are then later reported as income.
But now, in an effort to siphon off every last dime from some of the lowest paid people in America, the IRS will soon classify automatic gratuities as taxable wages subject to immediate payroll tax withholding.
The original rule went into effect in June 2012, but the IRS delayed enforcement until January 2014 to allow restaurants time to comply.
NPR notes as of July, Darden has stopped automatic tips at 100 restaurants in four cities, where it is testing a new system in which [they] include three suggested tip amounts, calculating for the customer the total tip with a 15%, 18% or 20% tip on all bills, regardless of party size.
Instead of wait staff having immediate access to cash from tips earned on large parties, this new IRS rule will force servers to wait for these tips to be paid via a formal paycheck — often issued every two weeks — minus the taxed amount.
“It would take longer to get the money and it would be less up front. That’s not good for a college student or parent trying to earn extra for day-to-day life.”
The Guardian’s Heather Long notes restaurants are already threatening to end automatic gratuities because it would be an administrative nightmare to do what the IRS now wants.
Several chains told the Wall Street Journal they would switch to putting “suggested tip amounts” of 15% 18% and 20% on bottom of the bill.
Long references a report [pdf] by Citizens for Tax Justice and the Institute on Taxation and Economic Policy, which shows that 30 Fortune 500 corporations paid no net federal income tax from 2008 through 2010.
“When some of the country’s largest corporations get away with paying next to nothing in taxes, you have to wonder why garnering a few extra dollars from waiters is a big priority,” writes Long.
Tips Are Not Optional, They Are How Waiters Get Paid
Chelsea Welch, the former Applebee’s waitress, made headlines when one woman in a large group left NO Tip along with a note that read “I give God 10%. Why do you get 18?”
The incident went viral when Chelsea posted the bill on Reddit to make a point: “tips are not optional. They are how waiters get paid in America.”
The California Restaurant Association explains how to determine when a tip is a tip and when a tip is a service charge.
So, when is a tip a tip?
The ruling provides that an employer’s characterization of a payment as tip is not determinative. Rather, a tip satisfies the following four factors:
1) The payment must be made free from compulsion.
2) The customer must have the unrestricted right to determine the amount.
3) The payment should not be the subject of negotiation or dictated by the employer policy.
4) Generally, the customer has the right to determine who receives the payment.
When is a tip really a service charge?
The ruling provides the following illustration of an alleged tip that is actually a service charge: A restaurant’s policy of adding an 18 percent service charge to the bill for parties of six or more is a service charge rather than a tip because the customer did not have the unrestricted right to determine the amount of the payment – it was dictated by the restaurant’s policy – and the customer did not make the payment free from compulsion.
On the other hand, a bill with sample calculations of different tip amounts, where the actual tip line is left blank, is truly a tip.