Litigation Over Tip Credits: Hospitality Industry Fighting Over Amended Regulations

New regulations issued by the Wage and Hour Division of the Department of Labor (DOL) interpreting the Fair Labor Standards Act (FLSA) regarding tip credits and tip pools recently went into effect on May 5, 2011. However, some industries are not satisfied with these change.  On June 16, 2011, the National Restaurant Association, the Council of State Restaurant Associations and the National Federation of Independent Business filed suit against the DOL over the amended regulations. The NRA has stated that the amended rule affects hundreds of thousands of businesses that employ tipped workers. The suit seeks declaratory and injunctive relief because employers had no opportunity to comment on the new regulatory requirements and the DOL gave employers only 30 days to comply.

The hospitality industry is the industry most affected by these changes as it often relies on the tip credit to manage its labor costs, while fairly compensating employees engaged in direct customer service. For example, an employer may pay a cash wage of at least $2.13, and take a tip credit for the remainder, as long as the employee earns enough in tips to make up the difference to the minimum wage of $7.25. In order to take advantage of this credit, the DOL insists that its tip credit regulations be precisely followed:  “Where an employer does not strictly observe the provisions of [29 U.S.C. § 203(m)], no tip credit may be claimed and the employees are entitled to the full cash minimum wage.” See DOL Field Operations Handbook 30d01(b). As a result, it is critical that the tip credit be applied lawfully.

In general, the tip credit can only be applied to those who meet the definition of tipped employee pursuant to the DOL:  a “tipped employee” is an employee engaged in an occupation in which the employee customarily and regularly receives more than $30 a month in tips. 29 U.S.C. § 203(t).  The DOL further defines a tip as “a sum presented by a customer as a gift or gratuity in recognition of some service performed for the customer.” 29 C.F.R. § 531.52. It is to be distinguished from payment of a charge, if any, made for the service. Whether a tip is to be given, and its amount, are matters determined solely by the customer, and generally he or she has the right to determine who shall be the recipient of the gratuity. Tip pooling is permissible to permit service-oriented employees who may not receive direct tips (e.g., service bar tenders, bar backs, bussers) to accept tips from other tipped employees, and to take a tip credit against these employees’ minimum wage.

Although DOL has consistently required employees to be notified if the employer will take the tip credit, the amended regulations contain much more detailed requirements for the employer. 29 C.F.R. §§ 531.54 and 531.59(b) require that employers inform tipped employees “in advance of the employer’s use of the tip credit of the provisions of [S]ection 3(m) of the Act.”  29 C.F.R. § 531.59(b). In fact, the regulations expand the notice requirement to oblige the employer to inform employees of 4 specific concepts with regards to tip credits: (1) the amount of the cash wage that is to be paid to the tipped employee by the employer; (2) the additional amount by which the wages of the tipped employee are increased on account of the tip credit claimed by the employer, which amount may not exceed the value of the tips actually received by the employee; (3) that all tips received by the tipped employee must be retained by the employee except for a valid tip pooling arrangement limited to employees who customarily and regularly receive tips; and (4) that the tip credit shall not apply to any employee who has not been informed of these requirements in this section. Employers also must notify employees of any required tip pool contributions. 29 C.F.R. § 531.54. Although the regulations do not require that the employer provide the notice in writing, it will be difficult for the employer to prove to the DOL that it met its burden of demonstrating notice without written acknowledgments of the notification by each of the employees.

Despite the fact that the FLSA only addresses “tips” in the context of the tip credit, the DOL’s new regulations now also addresses ownership of tips regardless of whether the employer pays the employee the full minimum wage in cash. The amended regulations state that “[t]ips are the property of the employee whether or not the employer has taken a tip credit.” 29 C.F.R. § 531.52. Further, the employer “is prohibited from using an employee’s tips” regardless of whether or not the employee has taken a tip credit, except for a valid tip credit and tip pool. The regulations expressly reject the holding of the Ninth Circuit Court of Appeals[1] that, when no tip credit is taken, tips are only the property of the employee when there is no agreement between the employer and employee stating otherwise.

In a more employer friendly change, the new regulations also provide that “Section 3(m) does not impose a maximum contribution percentage on valid mandatory tip pools, which can only include those employees who customarily and regularly receive tips.” This replaces the DOL’s previous interpretation in its Field Operations Handbook stating that the net amount of tips’ contribution should not exceed 15 percent of the employees’ tips.

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