What is Tip Credit? Pros and Cons for Owners and Employees

In the United States, the federal minimum wage for tipped employees is $2.13 per hour and believe it or not, this amount has not been increased since 1991. 

The difference between the tipped minimum wage and the standard federal minimum cash wage is known as a tip credit.

In this article, we will go over the pros and cons of tip credit for both restaurant business owners and employees.

What is tip credit?

Tip credit is a system that allows employers to pay less than the standard full minimum wage to employees who receive tips. 

The federal minimum wage for tipped employees is $2.13 per hour, while the standard full minimum wage is $7.25 per hour. 

According to the Fair Labor Standards Act, a tipped employee is an employee engaged in an occupation in which they regularly receive tips — more than $30/month, to be precise.

Among other things, the tip credit system is meant to incentivize employees to provide good service, as their earnings per pay period are directly tied to their performance.

The majority of the 50 US states have some form of tip credit. However, there are state-specific rules and regulations on how to calculate a tip credit, as well as regulations on the federal minimum that employers are required to pay tipped employees. In some states, the tip credit is a percentage of the standard minimum wage requirements, while in others, it is a fixed amount. 

Let’s take a tip credit example in the state of New York. The tip credit is calculated as a percentage of the standard cash minimum wage. The percentage varies depending on the location of the employer and the size of the business. 

In New York City, the tip credit for restaurants with 11 or more employees is $5.00 per hour, while for restaurants with 10 or fewer employees, it is $4.50 per hour.

In Texas, the minimum amount of tip credit is $2.13 per hour, which is the same as the federal minimum wage for tipped employees. However, if the tipped employee’s tips combined with their hourly wage do not add up to the standard minimum wage, the employer has to pay to make up the difference.

The total tip credit in Florida is a fixed amount of $6.98 per hour, which is subtracted from the standard minimum wage of $11 per hour. This means that employers in Florida must pay their tipped workers a minimum of $4.02 per hour in employee wages in addition to any tips they receive.

The following states do not allow for a tip credit and require that employers pay employees the standard minimum wage in addition to any employee tips received:

• Alaska
• California
• Guam
• Minnesota
• Montana
• Nevada
• Oregon
• Washington

How to calculate tip credit

To calculate tip credit, employers must first determine the number of tips that employees receive and then do their minimum wage calculations. The employer can then subtract the tip credit from the standard minimum wage to determine the amount that they must pay their employees. 

For example, if an employee receives $5 per hour in tips and the minimum wage is $7.25 per hour, the employer can use a tip credit of $2.13 per hour and pay the employee $5 per hour plus $2.13 per hour in tip credit.

The formula for tip credit calculation would then look like this:

$7.25 - $2.13 = $5.12 tip credit

Pros and cons of the tip credit

Pros

• Flexibility — one of the biggest advantages of tip credit is the flexibility it provides to employers when it comes to managing their labor costs. Paying their tipped workers a lower hourly wage helps employers save money on labor costs and have greater control over their business expenses.
  
  This can be especially important for businesses that operate in industries with high levels of competition or fluctuating demand, making it harder to achieve some of their restaurant KPIs. During slow periods, a restaurant owner may be able to reduce the hours of their tipped employees to save on labor costs without significantly impacting their overall profitability.

• Higher earnings — in the food and beverage industry, tipped workers can sometimes earn significantly more than the standard minimum wage through tips alone. For example, a waiter or waitress who works at a high-end restaurant may be able to earn hundreds of dollars in tips in a single shift, even if their hourly cash wage is relatively low. This can be a significant financial incentive for employees to work in jobs that involve tipping.
  
  
• Customer satisfaction — lower menu prices resulting from the tip credit system can lead to increased customer satisfaction and guest loyalty. Tipped workers often get paid a lower hourly cash wage, which is why restaurant owners may be able to offer lower menu prices. This can result in increased patronage and repeat business, as well as positive online reviews and word-of-mouth referrals. 

Additionally, customers may be more likely to tip generously when they perceive that the menu prices are lower than at comparable establishments, which can result in higher overall earnings for tipped staff.

Cons

• Hostile work environment — as their wages are reliant on tips, tipped workers may feel pressure to provide exceptional service to customers, even if they are treated poorly or subjected to harassment. This can lead to a stressful and unpleasant work environment, which can negatively impact employee morale and job satisfaction. In extreme cases, this pressure can lead to workplace harassment or discrimination.
  
  You should consider having an employee evaluation system in place so that your employees can let you know if they are unhappy with something like this or any other area of their work.
  
  
• Income inequality — tip credit can contribute to income inequality between tipped and non-tipped employees. While the tipped employee may be able to earn significantly more than the standard minimum wage through tips, non-tipped employees such as cooks and dishwashers are typically paid the standard minimum wage or slightly higher.
  
  This can create an unfair wage gap between different types of employees within the same establishment, which can lead to feelings of resentment and dissatisfaction among non-tipped staff. Your employee handbook should address the tipping system at your establishment so that new and existing hires are aware of what system you have in place to avoid income inequality. 
  
  
• Wage exploitation — while employers are required by law to ensure that their tipped employees earn at least the standard minimum wage when tips are taken into account, some employers may not comply with these requirements. Therefore, some employees can end up being paid less than they are entitled to, which can lead to financial insecurity and hardship.
  
  Additionally, some employers may engage in wage theft by taking a portion of their employees’ tips or failing to accurately report their earnings to the government, which can result in significant financial losses for employees. Employees should be wary of restaurants that tamper with their books and financial statements in this way.

What is restaurant tip credit?

Restaurant tip credit is a system that allows restaurant owners to pay their tipped employees a lower wage per hour worked as long as their tips bring an employee’s earnings up to at least the standard minimum wage. 

The tip credit system can be beneficial for restaurant owners, as it allows them to save money on labor costs and potentially increase their restaurants’ profit margin. 

However, it can also be complex and difficult to navigate, particularly for restaurant owners who are unfamiliar with the regulations and requirements surrounding tipped employees.

Different types of restaurants implement the tip credit system in different ways. Some restaurants may only have a few tipped employees, such as waitstaff and bartenders, while others may have a larger number of employees who receive tips, such as hosts, busboys, and delivery drivers. 

In addition, the amount of tips that employees receive can vary depending on the type of establishment, the quality of service provided, overtime pay, and other factors.

How tech helps with tip credit tracking

Accurate tracking of tips and earnings is essential for restaurants to ensure they are in compliance with tip credit regulations. With modern hospitality technology, restaurant owners can now use advanced point-of-sale systems that can help them achieve this more effectively

Eat App offers an in-depth trend and revenue reports feature for restaurant businesses. With this feature, restaurant owners can see and analyze server performance, revenue dips, and business on the books. Having accurate information regarding cash flow helps employers calculate the tip credit easier and stay compliant with the laws.

While you focus on more creative tasks like menu engineering, Eat App does the heavy lifting on the reporting side of things. You see all the important analytics in your Manager app, so you don’t waste time with multiple tools for data collection.

A top-notch reservation and table management system like Eat App can additionally help restaurants identify areas where they can improve their operations. 

This information can be used to identify slow-selling items or to determine which menu items are driving the most revenue. 

Apart from the above, Eat App’s revolutionary system allows for pre-payments and reservation deposits, helping businesses prevent no-shows and save money on booking cancellations.

Conclusion

Tip credit can be a contentious issue affecting both restaurant owners and employees. That is why both sides are required to understand the laws and regulations surrounding tip credit to ensure that they are compliant and that all are treated fairly.

If you are a restaurant owner looking to streamline your operations and ensure compliance with tip credit regulations, sign up for Eat App today. Our user-friendly system and revenue reports feature to make it easy to manage your restaurant’s finances and operations, so you can focus on providing your customers with an exceptional dining experience.