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Tips or Service Charges? Challenges for the Restaurant Industry

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Some restaurants in the San Francisco Bay Area are rethinking the tip or gratuity system we have all come to expect and accept.  Instead of relying on tips to help increase wage levels for their employees, some restaurants are imposing service charges of up to 20% to augment wages, and telling their patrons that tips are no longer expected.

Restaurant owners can distribute the service charges as wages to all employees, whether they working in the front or the back of the house.  Employers use the proceeds from service charges to increase the hourly wages of employees who sometimes have not been included in the gratuity system (including cooks, dishwashers, food runners).

Under California law service charges are not considered tips.  Service charges are the amount a patron is required to pay under the terms and conditions of purchasing food and drinks at the restaurant.  Service charges belong to the restaurant and not to the employees.

Using service charges to augment wages for restaurant workers can raise legal issues that can expose a restaurant to liability for failing to pay the correct amount of overtime pay to an employee.

[W]hen an employer distributes all or part of a service charge to its employees, the distribution may be at the discretion of the employer and the service charge, which would be in the nature of a bonus, would be included in the regular rate of pay when calculating overtime payments.

 California Division of Labor Standards, FAQ, Tips and Gratuities

If a restaurant establishes a standard distribution of the service charge proceeds (for example, each busser working an eight hour shift is entitled to 10% of the total service changes received during the shift), then the additional wage payment can be characterized as a non-discretionary bonus.  If the payment is deemed to be a non-discretionary bonus, then the employee’s overtime rate must be calculated to include the value of the service charge distribution.  If the additional compensation is not included in the regular rate of pay, the restaurant could face a claim that it failed to pay all of the overtime wages that were due.

While service charges are a creative way of creating and managing a fair wage system in a restaurant, they can also expose restaurants to significant liability.  Talk with Mr. Kitchin or with another qualified employment attorney before implementing any new wage system in your restaurant.