Tip Rules Under the FLSA

The Fair Labor Standards Act permits an employer to take a credit against its minimum wage obligation for tips that its employees receive. Recent statutory, regulatory and case law developments make it advisable to review the rules. (Caution: State rules may impose stricter limits than the FLSA does. See Tipping and the Wage and Hour Rules, which contains a discussion of California law.)

Section 3(m) of the FLSA (29 U.S.C. section 203) permits an employer to take a tip credit toward its minimum wage obligation for tipped employees equal to the difference between $2.13 and the federal minimum wage (currently $7.25). That provision raises the following questions:

Who is a "tipped employee?" A tipped employee means any employee engaged in an occupation in which he or she customarily and regularly receives more than $30 a month in tips.

Do tips belong to the employer or the employee? Although the employer may take a credit, the tips belong by law to the employee. An employer may not keep tips received by its employees for any purposes, including allowing managers or supervisors to keep any portion of an employee's tips.

May an employer require tipped employees to participate in a tip pool? Yes, if the employer does not take a tip credit, and pays its tipped employees a cash wage that equals or exceeds the minimum wage. Those who take a tip credit may not require tip pooling.

Who may the employer require to be included in a tip pool? Those employers who pay the full federal minimum wage without a tip credit may require tipped employees to share their tips with employees who are not customarily and regularly tipped, such as cooks and dishwashers. (This is a change from the prior rule under a DOL regulation that prohibited those who did not take a tip credit from requiring tips to be shared with untipped employees. The change resulted from Congressional action earlier this year.) However, as mentioned above, managers and supervisors may not participate in tip pools.

What about employees who perform some duties for which they regularly receive tips, and some for which they do not? The DOL's dual jobs regulation, and an interpretive guidance in Chapter 30 of the Wage and Hour Division's Field Operations Handbook (section 30d00(f)) require employers to pay their tipped employees a cash wage equal to at least the federal minimum wage for duties that they do not regularly receive tips for. The employer may apply a tip credit to time the tipped employee spends on incidental duties that are related to the tipped occupation, up to 20 percent of the total hours worked in the tipped occupation during the workweek. Related duties for a server could include such tasks as filling salt and pepper shakers while the restaurant is open, cleaning and setting tables, making coffee, and occasionally washing dishes. Cleaning bathrooms and washing windows do not constitute related duties.

The Ninth Circuit recently explored the applicable rules in March v. J. Alexander's LLC, Case No. 15-15791 (9th Cir. 9/18/2018).

Tipping and the Wage and Hour Rules

Tip Jar

Both federal law and California law impose rules on employers about how to treat tips that their employees receive. It is important for employers in California to understand both sets of rules.

Federal Fair Labor Standards Act

The FLSA addresses tips in 29 U.S.C. section 203(m), which provides that an employer may add "an additional amount on account of the tips received" to the cash wage, in determining whether it has satisfied the minimum wage law with respect to a tipped employee (defined as an employee who customarily and regularly receives more than $30 a month in tips). The cash wage must be at least $2.13 per hour. The additional amount may not exceed the value of the tips actually received by an employee. The employer must inform all its tipped employees if it will be taking a credit against minimum wage for tips. The employer must include the amount of any tip credit that it takes toward the minimum wage in the total compensation for the week from which the regular hourly rate is derived for computing overtime. 29 CFR section 531.60.

All tips belong to the employees who received them, but the statute is not intended "to prohibit the pooling of tips among employees who customarily and regularly receive tips." The FLSA does not impose a maximum contribution amount or percentage on valid mandatory tip pools, but the employer, however, must notify tipped employees of any required tip pool contribution amount, and may only take a tip credit for the amount of tips each tipped employee ultimately receives. Further information on regulation of tips under the FLSA  is available in the Department of Labor's Fact Sheet #15.

In a recent decision, the Ninth Circuit ruled that even employers who did not take tip credits against the minimum wage were subject to the requirement in the Department of Labor's regulations that mandatory tip pools must be composed only of employees who customarily and regularly receive tips. See Oregon Restaurant and Lodging Ass'n v. Perez, Case No. 13-35765 (9th Cir. Feb. 23, 2016).

UPDATE: The omnibus budget reconciliation act signed by President Trump on March 23, 2018, altered the federal rule to allow employers to require tip sharing with cooks, dishwashers and other "back-of-the house" workers who do not customarily and regularly receive tips. The rule still prohibits owners, supervisors and managers from taking a cut of the tips.

California Law

The wage and hour laws in California do not permit employers to take a credit against the minimum wage for tips received by their employees. The Labor Code declares all "gratuities" to be the sole property of the employees who received them. Cal. Lab. Code section 351. When a gratuity is given to an employee by means of writing an amount on a credit card slip, that amount must be paid to the employee no later than the next regular pay day with no deduction for processing fees.

Because the employer has no interest in gratuities under California law, tips are not included in the calculation of the regular rate of pay used to determine overtime pay.

The courts have interpreted section 351 to allow mandatory tip pools, so long as the pool is limited to those in the chain of service and does not include owners, managers or supervisors. Etheridge v. Reins Internat. California, Inc., 172 Cal. App. 4th 908 (2009); Jameson v. Five Feet Restaurant, Inc., 107 Cal. App. 4th 138 (2003). Cal. Lab. Code section 350.


The California Labor Commissioner has an FAQ page on tips and gratuities at its website.

Minimum Wage On The Rise

Pressure is mounting at the national, state and local levels to boost the minimum wage. There is pressure on the Los Angeles City Council to raise the minimum for the City to $15. On July 14, 2014, the San Diego City Council took the first step toward raising the minimum to $11.50 by January 2017.

The federal minimum wage establishes a floor for the entire United States of of $7.25 per hour, but each state may establish its own minimum wage, as many have done. At the end of April 2014, sponsors of a bill to raise the federal minimum wage to $10.10 failed to obtain the votes necessary to allow the Senate to consider it.

The California minimum wage was raised to $9.00 per hour on July 1, 2014, and is scheduled to go to $10.00 per hour on January 1, 2016. California law allows local municipalities to set their own minimum wages. San Francisco has adopted a minimum wage ($10.74 per hour for 2014) that adjusts annually based on the regional consumer price index. San Jose has a similar ordinance, and a current minimum wage of $10.15 per hour. Because others will certainly follow, employers must monitor local legislative activity wherever they have employees to ensure that their wages meet local requirements.

A May 2012 post explored some of the details of the minimum wage.

Minimum Wage Principles

There is constant debate about whether requiring employers to pay their employees a minimum wage is good public policy.

Henry Hazlitt (against): "The first thing that happens, for example, when a law is passed that no one shall he paid less than $30 for a forty-hour week is that no one who is not worth $30 a week to an employer will he employed at all. You cannot make a man worth a given amount by making it illegal for anyone to offer him anything less. You merely deprive him of the right to earn the amount that his abilities and situation would permit him to earn, while you deprive the community even of the moderate services that he is capable of rendering. In brief, for a low wage you substitute unemployment. You do harm all around, with no comparable compensation." (From Economics in One Lesson, Chapter XVIII Minimum Wage Laws)

Jeff Chapman and Michael Ettlinger (for): "The minimum wage has been an important part of the U.S. economy for 65 years. It is a statement of how the nation values work; it is a tangible measure of how Americans view employers’ obligation to their workers; it is an equalizer in a low-wage labor market where workers have little bargaining power; and it is an effective policy that helps low- and middle-income families with low-wage workers. These are the reasons why policy makers at both the federal and state level are acting to ensure that the minimum wage continues to be an effective floor to the wages of working Americans." (From The Who and Why of the Minimum Wage)

Whether it is good policy or bad, the minimum wage is the law. The federal Fair Labor Standards Act imposes a national floor of $7.25 per hour, which is enforced by the U.S. Department of Labor. States may impose a higher minimum wage, which California has done with a minimum wage order (enforced by the Division of Labor Standards Enforcement) that requires California employers to pay at least $8.00 per hour. Minimum wage for sheepherders in California is $1422.52 per month.

Most employees who are exempt from the FLSA's overtime provisions (such as executive, administrative and professional employees) are also exempt from the minimum wage requirement. Federal law recognizes some additional exceptions. Employers may apply for permission to pay sub-minimum wage under federal law to those whose productive capacity is impaired by physical or mental disability. The Department of Labor issues certificates that allow employers to pay full-time students 85 percent of the federal minimum wage. Under federal law, those under 20 need only by paid $4.25 for their first 90 days of employment. High school students at least 16 years old may be paid only 75 percent of minimum wage upon issuance of a certificate by the Department of Labor.

Under federal law, employers may credit the reasonable cost of employer-provided meals and housing against the minimum wage. Employers are also entitled to a credit for tips received by employees if they pay those employees at least $2.13 per hour cash wages and the employees receive at least $30 per month in tips.

California law differs. The sub-minimum wage for those under 20 only applies for the first 120 hours of employment. The student learner wage must be at least 85 percent of minimum wage. There is no credit for tips. The credit for meals and housing is limited to the amounts specified in the wage orders.

Another important difference is in how the rate of pay is computed. Under the FLSA, there is a minimum wage violation only if the employee's average wage for a pay period in which no overtime is worked exceeds the minimum wage. California law requires the employer to pay at least the minimum for each hour worked. The federal averaging method is not appropriate under California law. For an explanation of the difference, see Armenta v. Osmose, Inc., 135 Cal. App. 4th 314, 37 Cal.Rptr.3d 460 (2005).

Contractor Liability for Subcontractor Wage and Hour Violations

A 2003 statute makes those who contract with another for certain services liable for the other's wage and hour violations if they know or should know that the contract did not include funds sufficient to allow the other to comply with wage and hour laws. As explained in a State Assembly Report, Labor Code section 2810 was enacted after hearings into the effects of the underground economy. Those hearings established that the failure of some employers in the janitorial, garment and agricultural industries to comply with wage and hour rules gave them an unfair advantage over law-abiding employers, and deprived employees of millions of dollars in wages.

Section 2810 applies to those who contract for labor or services with construction, farm labor, garment, janitorial or security guard contractors. An aggrieved employee of the contractor who suffers actual damages as a result of the insufficiency of the funds provided for under the contract may sue for whichever is greater of the actual damages or a statutory penalty. If the aggrieved employee prevails, he or she may recover costs and reasonable attorney's fees.

A recent decision by the First District Court of Appeal in San Francisco addresses four issues about the application of section 2810:

1. Determining sufficiency. Whether the funds are sufficient should be determined by whether the contract provides sufficient funds to pay the minimum wage. Although the plaintiffs argued that the determination should be based on the contracting party's understanding of the wages actually paid by the contractor, the court could find no support for the argument in the language of the statute or the legislative history.
2. Knows or should know. Whether the contracting party has constructive knowledge sufficient to trigger application of the statute should be determined by estimating the likely cost of performance based on knowledge typical in the industry about cost.
3. NLRA Preemption. Although the statute exempts those contracting parties who have collective bargaining agreements with the workers employed under the contract, there was no preemption under Machinists v. Emp. Rel. Comm'n, 427 U.S. 132 (1976), because that provision did not have a sufficiently substantial effect on collective bargaining. Although the statute required sufficient funds to comply with all applicable federal laws , there was no preemption under San Diego Building Trades Council v. Garmon, 359 U.S. 236 (1959), because the plaintiffs were not attempting to enforce the NLRA in the action.
4. Causation. The plaintiffs do not have to prove that the contractual insufficiency actually caused the direct employers to violate the wage and hour laws. It is enough to show that the funds were insufficient.

Castillo v. Toll Bros., Inc., Case No. A128605 (Cal.Ct.App. Jul. 28, 2011).

There's no such thing as a free intern

In these tough times, when employers are looking for every possible way to save money and students are desperate for jobs, be careful about practices that might run afoul of the wage and hour rules. Employers are frequently approached by students who are willing to work for nothing in order to make contacts that will help them find a paid job. As a general rule, such arrangements are not legal. Employers must pay anyone who provides services at least the minimum wage (which is $8 per hour in California). There is a limited exception for interns who qualify as trainees. This requires that the intern (1) be part of a program similar to training that would be provided at a vocational school, (2) be the target of the benefits of the program, (3) not displace regular employees but work under close observation, (4) not provide any immediate advantage to the employer through his or her work, (5) not be entitled to a job at the end of the internship, and (6) understand that no wages will be paid.

The U.S. Department of Labor recently issued a guidance letter about training and employment that explains the six factors the agency uses to determine whether a worker is a trainee or an employee. Further insight into the application of the factors is available in a May 2004 opinion letter from the Department's Wage and Hour Division. The letter discusses the use of student interns to practice marketing on their college campus.

The California Labor Commissioner's Division of Labor Standards Enforcement uses a similar test for determining whether an intern is a trainee or an employee. The test is explained in a 1996 opinion letter, which concluded that students used to perform routine work on movie studio lots were probably employees, even though they received college credit for what they did.

Tip Pooling in Casinos

The Second District Court of Appeal in Los Angeles has ruled that casinos may insist on tip pooling among their employees, but found that the Hawaiian Gardens Casino may have violated the ban on participation in tip pools by supervisors. Lu v. Hawaiian Gardens Casino, Inc., Case No. B194209 (Jan. 22, 2009). We previously wrote about tip pooling in this blog on July 6, 2008, in our report on the Starbucks settlement with its baristas.

Labor Code section 351 prohibits employers from taking tips or crediting tips toward minimum wage obligations. However, under a 1990 Court of Appeal decision, employers may insist that employees pool their tips so that all are treated fairly. Leighton v. Old Heidelberg, Ltd., 219 Cal.App.3d 1062 (1990). That decision explained: "To the contrary, the restaurant business has long accommodated this practice which, through custom and usage, has become an industry policy or standard, a "house rule and is with nearly all Restaurants," by which the restaurant employer, as part of the operation of his business and to ensure peace and harmony in employee relations, pools and distributes among those employees, who directly provide table service to a patron, the gratuity left by him, and enforces that policy as a condition of employment."

The Hawaiian Gardens Casino dealers argued in their class action lawsuit that the rule permitting tip pooling should not apply to them because the tips were handed directly to them, and were not intended to be left for all the employees in the casino who provided service. The court rejected the argument. "As in restaurants, a tip pool in a casino promotes good service among all of the employees who come in contact with the patron, which enhances the casino's reputation and increases its business."

However, that did not get the casino out of the lawsuit. There was evidence that some of those who participated in the tip pool acted in a supervisory capacity by participating in evaluations and by directing and advising dealers on their conduct. That would make such employees "agents" who are barred by section 351 from receiving any tip money.

Although there is no private right to sue under section 351, any violation of the statute may form the basis for a claim under the Unfair Competition Law, Business and Professions Code section 17200.