This article is part of a larger series on How to Do Payroll.
Tipped minimum wage is the lowest amount that employers, like restaurants and resorts, can pay their employees who receive tips. Currently, the federal tipped minimum wage is $2.13 per hour, but each state has its own regulation.
Tipped minimum wages paid by the employer and tips received need to equal at least minimum wage when combined (federal minimum wage is currently $7.25 an hour; states vary). Otherwise, employers will be liable to make up for the difference. Paying tipped minimum wage can save money, but calculations can be time consuming and participating employers are subject to oversight.
How Much Is Tipped Minimum Wage by State?
There’s no standard tipped minimum wage for each state. States like Texas and Georgia don’t have any specific wage laws for tipped employees and follow the federal rate. Some states (Florida and Colorado, for example), have tipped minimum wage rates higher than the $2.13 federal rate, while Montana, Nevada, and other states don’t allow paying a tipped minimum wage, requiring employers to pay the full state minimum wage.
Use the drop-down menu to view data for each state.
Tip: It’s important to note that some cities have their own minimum wage that is different from the state-mandated minimum (like New York, for example). Be sure to verify with your state and local minimum wages before issuing any payments to your staff.
How Tipped Minimum Wage Works
Tipped minimum wage allows tipped employees to be paid at a lower rate by their employer. Per federal law, tipped employees are workers who regularly receive more than $30 a month in tips. Employees who would be considered “tipped employees” include:
- Waitstaff: Waitstaff includes the servers (waiters and waitresses) who take food and drink orders and deliver them to customers.
- Bartenders: Bartenders typically work behind the bar serving alcoholic beverages.
- Valet parking attendants: Valet parking attendants provide a parking service to incoming customers, usually at a high-end restaurant or hotel.
Although there are other employee types, such as cooks and hosts, who may regularly receive tips as part of a tip sharing program, you aren’t allowed to pay them a tipped minimum wage.
If you have tipped employees, you can apply a federal tax credit of up to $5.12 per hour to reduce their hourly cash rate paid. This equals a federal minimum tipped wage of $2.13 per hour ($7.25 – $5.12). Many states have their own maximum tax credits that determine how much of an employee’s income is able to be made up of tips. You’ll have to take this into account for your employees’ pay, and it may change how you do payroll.
Tipped employees are responsible for tracking and reporting tips received from all sources, and you’re required to report the information to the IRS. Any errors, whether intentional or not, can lead to penalties and unexpected taxes for violation of payroll compliance laws.
Remember, the $2.13 tipped minimum wage only relates to federal law; as shown above, many states have their own tipped minimum wage laws in place. When faced with conflicting federal, state, and local wage laws, always abide by the ones that give employees the most protection.
Laws for Tipped Minimum Wage
Paying your state tipped minimum wage subjects you to additional oversight and reporting. You’re responsible for notifying all new hires of your tip credit policies before they begin working. In addition, federal law requires that you withhold payroll taxes from all tips, whether received in cash, by credit card, or some other means. This leads to additional reporting responsibilities for your employees, who must be honest about the tips they receive directly from customers.
Keep in mind that although your state may give you the option to take a tip credit, you shouldn’t feel forced to participate. You can also opt to take a partial credit against your employees’ hourly wages, which allows you to take advantage of the tip credit allowance while ensuring your employees are paid minimum wage.
Provide a Tip Credit Notice
Federal law requires you to provide a notice, either oral or written, informing your employees in advance of any tip credits you plan to take. A best practice is to create a written notice you can attach to their new hire paperwork. You should require that each employee sign the notice so you have supporting documentation that they received a copy.
The tip credit notice should include the following:
- The hourly wage you are paying a tipped employee, which must be at least $2.13 per hour per federal law; the amount could be higher depending on the tipped minimum wage by state
- The amount of the tip credit, which cannot be more than $5.12 (the difference between the minimum required cash wage of $2.13 and the current federal minimum wage of $7.25); the maximum tip credit may be less depending on the tipped minimum wage by state
- A statement explaining that the tip credit you claim cannot exceed the amount of tips actually received by the tipped employee
- A statement detailing that all tips received by the tipped employee are to be retained by the employee except for a valid tip pooling arrangement; in addition, inform the employee that managers aren’t allowed to take control of their tips
- A statement outlining that the tip credit will not apply to any tipped employee unless the employee has been informed of these tip credit provisions
And just to reiterate: You aren’t legally allowed to take your employees’ tips, unless they request that you collect them for verification purposes. If that happens, you must return the tips in a timely manner.
Tip reporting requirements are another important component of complying with federal wage laws. You’re responsible for collecting payroll taxes on the tips as you would regular wages, so it’s important that your employees track and report to you all tips they directly receive from customers (usually cash tips).
You can print copies of Form 4070 to make it easier for your employees to report the monthly tips they receive to you. You can also print copies of Form 4070A so they have a workbook to help track their daily tips. Another check you should perform is making sure the total tip income your employees report each period is at least 8% of their total gross sales for the same period, or you may have to pay additional money for allocated tips.
For payroll taxes, you’ll need to submit Form 941 to report income, Social Security, and Medicare taxes withheld from your employees’ paychecks, and you should use Form 940 to pay federal unemployment taxes (FUTA). At year-end, you’ll be required to prepare Form W-2 for all employees. It reports all income earned by the employee as well as taxes, so be sure to include all wages and tips earned throughout the year in addition to payroll taxes withheld and paid.
Allocated tips are additional monies you may be required to pay if any employee’s total tips received is less than 8% of respective gross sales during the period. This is the IRS’ way of screening for unreported tip income. You must use Form 8027 to report total sales and tips received during the year and enter any allocated tips due or paid in the “allocated tip” box on employees’ Form W-2 at the end of the year. Please note income and FICA taxes are not withheld on these tips, and this requirement only applies to companies with more than 10 employees.
Pros & Cons of Paying Tipped Minimum Wage
In some cases, paying a tipped minimum wage helps employers save money while still allowing employees to receive a decent wage. In other cases, the employees receive the short end of the stick.
|Less expense: When employers pay tipped wages versus regular wages, they save money.||Time consuming: Tracking and reporting tips requires additional time from employees and employers.|
|Additional tax credit: Employers who pay tipped wages may be entitled to a FICA tip credit at tax time. This is a credit for taxes paid on tips received that were over the minimum wage requirement.||Employees may feel resentful: Some employees may be upset that back-of-house employees, like cooks and dishwashers, receive higher pay while they only receive the minimum wage.|
|Better service: Workers may be more motivated to provide exceptional service since the majority of their income could potentially come directly from tips.||Error prone: Because you have to rely on calculations and employee honesty for accurate tip reporting, errors are more likely to occur. This can lead to unexpected taxes, back pay, and jail time.|
Take time to consider the pros and cons of offering tipped wages to your employees. It works for some employers, but not as well for others.
Pro Tip: If saving money is your primary goal, you could consider charging each dine-in customer a mandatory service fee. This is a percentage of the total bill and must be recognized as income to your business. The law doesn’t require you to distribute this money to your employees; however, some states do require you to provide a statement on the bill that explains whether or not employees will receive the service fees.
Payroll Providers for Employers Paying Tipped Employees
Paying a tipped employee can be complex and time consuming, especially if you have more than a handful of employees. Using a payroll service can help with that. The best payroll providers for paying tipped employees have features that will help you pay out tips and withhold taxes from them. Many services also allow your employees to enter their tips, cash, credit card, and so on daily, so you can easily track them.
Here are the top payroll services for paying tipped employees:
Restaurants that need help distributing tips electronically at the end of each shift
Hotels and restaurants needing help calculating and withholding payroll taxes from tips
Small businesses that need an affordable payroll service that provides minimum wage alerts
Restaurateurs needing a dedicated payroll specialist in addition to customizable tip features
Restaurants using Square Timecard, which pools and splits tips based on hours worked
It’s important for employers with tipped employees, especially restaurateurs, to check the tipped minimum wage by state before setting hourly wage amounts. The laws vary—some states don’t require the standard minimum wage—and any violations can result in the employer paying back wages and penalties. Payroll services with compliance assistance can help.
If you’re looking for a payroll service that allows you to report cash and credit card tips, consider Gusto. You can automate payroll, and taxes are held accordingly. The plans are tiered, so you can add compliance assistance when needed. Sign up for a 30-day trial today.