Hospitality Industry Employers Pay for Tip Violations

On September 14, 2011, the United States Court of Appeals for the Fifth Circuit upheld a $1.8 million jury verdict for 55 waiters at a Chili’s Grill and Bar.  The waiters alleged they were compelled by their employer to participate in an illegal tip pooling arrangement.

[1]  The appellate court also upheld a $1.5 million attorney’s fee award.  This recent case illustrates the costly consequences for employers who do not properly comply with the tip credit provision of the Fair Labor Standards Act (“FLSA”).  Investigations of restaurant and hospitality industry employers for tip credit violations are increasingly being pursued by the Department of Labor, usually prompted by a complaint from a disgruntled current or former employee.  Proven violations of the FLSA can result in employers having to pay up to two years of backpay, three years for willful violations, as well as possible liquidated damages.

Plaintiffs’ attorneys have discovered that tip credit violations can be a profitable area to pursue, especially in collective actions.  They are running radio and television commercials to solicit waiters, waitresses and other tipped employees to join in lawsuits. 

In its most basic form, the FLSA requires employers to pay non-exempt employees no less than $7.25 per hour.  Employers also must pay employees overtime at a rate of not less than one and one-half times their regular rate of pay for hours worked in excess of 40 hours in a workweek.  However, Section 3(m) of the FLSA allows an employer to take a “tip credit” toward its minimum wage obligation for tipped employees, equal to the difference between the required cash wage, which must be at least $2.13, and the federal minimum wage.  As such, the maximum tip credit that an employer can currently claim under the FLSA is $5.12 per hour.

Tipped employees are those who customarily and regularly receive more than $30 per month in tips.  The employer is prohibited from using an employee’s tips for any reason other than as a credit against its minimum wage obligation to the employee (“tip credit”) or in furtherance of a valid tip pool, and the employee must retain all tips collected.

Earlier this year, the Department of Labor issued new regulations that require employers to provide specific information to employees as a condition for the employer to take advantage of the tip credit.  Failure to comply with these notice requirements could result in an employer being liable for paying the full minimum wage for the employees in question.  While not expressly required under the law, a written notice, with a signed acknowledgment by the employee, is the best way to avoid subsequent claims of lack of notice.  Employers should check to be sure they are in compliance under the new regulations.

As illustrated by the Chili’s case above, one area where employers can get into trouble is by improperly instituting a tip pooling arrangement.  The requirement that an employee must retain all their tips does not prevent the establishment of a valid tip pooling or sharing arrangement among employees who customarily and regularly receive tips.  Where employees who do not customarily and regularly receive tips are included in the pool, such as managers, assistant managers, cooks, dishwashers and the like, it violates the FLSA.  This can be further complicated when you have employees with dual duties, where they customarily and regularly receive tips for one position, but not for the other.

Another common error among employers is the mistaken assumption that utilizing the tip credit somehow negates the requirement that non-exempt employees must be paid at least the minimum wage.  Where an employee does not receive sufficient tips to make up the difference between the direct wage payment and the minimum wage, the employer must make up the difference. 

Another common violation can occur where employers make deductions from employees’ pay for required uniforms, walk-outs, breakage, or cash register shortages.  Where such deductions reduce the employee’s wages below the minimum wage, such deductions are illegal.

The FLSA is a complex and confusing law for many employees, and this article is intended only to briefly and generally address the tip credit provision of the Act.  The Department of Labor is currently targeting and investigating employers in the hospitality industry for other FLSA violations, including misclassification of employees as exempt, misclassification of employees as “independent contractors, and failure to properly calculate or pay overtime.  Such issues will be addressed in future articles.  Employers are well advised to conduct complete FLSA compliance audits with the assistance of legal counsel or HR specialists before being contacted by the Department of Labor or being served with a lawsuit.[2]

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