Publication 115, Tips, Gratuities, and Service Charges
Businesses such as restaurants, hotels, caterers, boarding houses, drive-ins and similar establishments often receive payments designated as tips, gratuities, and service charges from their customers. An optional payment designated as a tip, gratuity, or service charge is not subject to tax. A mandatory payment designated as a tip, gratuity, or service charge is included in taxable gross receipts, even if the amount is later paid by the retailer to employees.
Optional tips, gratuities, and service charges
Generally, a tip, gratuity, or service charge (tip) is optional if your customer adds the amount to the bill, or leaves a separate amount in addition to the actual amount due from your sale of meals, food, and drinks that include services.
A tip, gratuity, or service charge is optional and not included in taxable gross receipts when:
- The restaurant check is presented with the “tip” area blank so your customer may voluntarily write in an amount, or
- The restaurant check is presented to your customer with tip suggestions and the “tip” area is blank so your customers may voluntarily write in an amount if they wish to do so.
|Food Item A||$9.95|
|Beverage Item B||3.75|
|8.25% sales tax||1.13|
|*Suggested tips: 15%=$2.06; 18%=$2.47; 20%=$2.74; other.|
Please note: The tax rate of 8.25 percent is used for illustrative purposes only; your actual rate may differ. To find the correct tax rate for your area or business location, visit www.cdtfa.ca.gov and click Find my tax rate.
On and after January 1, 2015, when a retailer keeps records consistent with reporting amounts as tip wages for Internal Revenue Service (IRS) purposes, such amounts are presumed to be optional and not subject to tax. When a retailer does not maintain such records, this presumption does not apply and the amounts may be mandatory and included in taxable gross receipts.
If an employer misappropriates gratuities that are intended for an employee, these amounts are included in the retailer's taxable gross receipts.
Mandatory tips, gratuities, and service charges
For transactions beginning on and after January 1, 2015, when a retailer’s records reflect amounts required to be reported to the IRS as nontip wages, the amounts are deemed to be mandatory and includable in taxable gross receipts.
When a retailer does not maintain records for purposes of reporting the amounts to the IRS, an amount negotiated between the retailer and the customer in advance of a meal, food, or drinks, or an event that includes a meal, food, or drinks is mandatory.
The amount will also be considered mandatory when the menus, brochures, advertisements, or other materials contain printed statements that notify customers that tips, gratuities, or service charges will, or may be added, to the bill. Examples of printed statements include:
- “An 18% gratuity [or service charge] will be added to parties of 8 or more.”
- “Suggested gratuity 15%,” itemized on the invoice or bill presented to your customer.
- “A 15% voluntary gratuity will be added for parties of 8 or more.”
When the menu, brochure, advertisement, or other material contains such printed statements, an amount automatically added to the bill or invoice is a mandatory charge and subject to tax. An amount is considered automatically added when the retailer adds the amount to the bill without first discussing it with the customer after the service of the meal.
It is presumed that an amount you add as a tip to the bill or invoice you present to the customer is mandatory. A statement on the bill or invoice that the amount is suggested, optional, or may be increased, decreased, or removed by your customer does not change the mandatory nature of the charge. This presumption may be disputed by documentary evidence maintained in your records showing that your customer specifically requested and authorized the gratuity be added to the bill.
Examples of documentary evidence that may be used to overcome the presumption include:
- A guest check that is presented to the customer showing sales tax reimbursement and the figure upon which it was computed, without “tip” or with the “tip” area blank and a separate document, such as a credit card receipt, to which the retailer adds or prints the requested amount.
- Guest receipts and payments showing that the percentage of amounts paid by large parties varies from the percentage stated on the menu, brochure, advertisement, or other printed materials.
- A retailer's written policy stating that its employees shall receive confirmation from a customer before adding an amount together with additional verifiable evidence that the policy has been enforced. The policy is not in itself sufficient documentation to establish that the customer requested and authorized that the amount be added to the bill without such additional verifiable evidence.
Please retain the guest checks and any additional separate documents to show that the payments of tips, gratuities, or service charges are optional. You are also required to maintain other records in accordance with the requirements of Regulation 1698, Records.
No employer shall collect, take, or receive any gratuity or a part of that gratuity, paid, given to, or left for an employee by a patron, or deduct any amount from wages due an employee on account of such gratuity, or require an employee to credit the amount, or any part thereof, of such gratuity against and as a part of the wages due the employee from the employer, as provided in Labor Code section 351. If this prohibition is violated, any amount received by the employer will be considered a part of the gross receipts of the employer and subject to the tax.
Unrelated service charges
Tax does not apply to separately stated charges for services unrelated to furnishing and serving meals, food, or drinks, such as optional entertainment or any staff who do not directly participate in the preparation, furnishing, or serving of the meals, food, or drinks. For example:
- Coat-check clerks
- Parking attendants
- Security guards
Pooled tips for taxable and nontaxable services
If your contract requires your customer to pay a lump-sum tip in addition to your other charges, tax applies to all charges directly related to the preparation and service of the meal. But if you divide the tip among employees who prepare and serve food and those who provide parking, the portion paid to the parking attendants is not taxable. Your invoice and business records must clearly document the specific percentage or amount paid to each type of employee and the service provided.
Optional service charges related to nontaxable sales may be segregated by:
- Listing the taxable charges separately on the invoice
- Separately stating the sales tax
- Keeping separate records of taxable and nontaxable charges
A cover charge is taxable if it allows your customer to consume food or beverages served on the premises without paying additional amounts for them. This is true even if the customer does not consume any food or beverages, or if the value of the food or beverages is less than the cover charge. Separate cover charges for admission only are not taxable.
Charges for opening and serving a customer-furnished beverage are generally taxable.
By law, restaurants in the City of San Francisco have the choice of either raising their prices or adding on a “health surcharge” cost to each meal check, to cover the owner's portion of the health insurance that they provide to their employees. Despite the fact that this is a government mandate, it is interpreted by the CDTFA as an increase in the price of the meal and therefore is subject to California sales tax.