Effective June 2016, the Protecting Employees’ Tips Act changed how employers deal with tips. If you have clients in the food service industry or any other industry where employees receive tips, you should make sure your clients understand these rules and their tax implications.
Withholding From Tips
Under the new law, employers can’t withhold anything from their employees’ tips unless it’s legally required or for a tip pool. For instance, your client can’t reduce their employees’ tips due to spilled drinks or broken dishes. In fact, even if your clients pay their tipped employees an hourly wage, they need to be very careful about deducting wages for broken property, cash loss, or faulty work. It’s never legal to deduct wages for faulty work such as broken tools, mistakes on credit card transactions, and similar errors. With cash shortages or lost property, your clients can only withhold these amounts if they meet the following two conditions:
1. They get written permission from their employee.
2. The employee was the only person to have access to the cash or property.
Court-ordered deductions are typically for costs such as alimony and child support. If your client needs to make these types of deductions, they receive a notice from a third party. Then, they have to deduct the required amount and remit it as instructed.
Legally Required Deductions
Your client can also deduct amounts that are legally required under the Income Tax Act. This part gets a little tricky. All tips are taxable income, and your client’s employees need to report all their tips on their income tax returns. But only some tips are pensionable and insurable. In other words, your client only has to pay Canada Pension Plan contributions and Employment Insurance Premiums on certain tips.
As a general rule of thumb, if the tip goes directly to the worker, your client doesn’t have to worry about CPP or EI. That includes cash left on the table or handed to a worker, but it also includes credit card tips given directly to the employee. On the other hand, your client should withhold CPP and EI on controlled tips. This includes mandatory service charges, tips added to the bill by the company, and tips that go through tip pools.
In Ontario, tip pools are still legal. Your clients can require all employees to contribute their tips to the pool, and then distribute the tips to everyone who participates in the tip pool. For example, your client may collect everyone’s tips and then split 80% of the tips between the serving staff, give 10% to the kitchen crew, and hand the final 10% to the bussers. To be on the safe side and to avoid arguments, your client should put the rules for the tip pool in writing, and post the guidelines where their employees can see them.
Your clients can also require employees to "tip out" other employees. To explain, this is when a server has to give x percentage of their wages to the host, bussers, or anyone else. But your clients need to be aware this is considered a tip pool. and as a result, these tips may also be pensionable and insurable.
Help your clients understand these rules but also help them keep track of wages and tips so they’re audit proof. Due to the high volume of cash that passes through most restaurants, this industry is on the Canada Revenue Agency’s radar, and clients in this category may be more likely to face an audit than the average business owner. When your clients have the right records in place, it’s easy to prove compliance.