The Taxation of Tips is a Murky Area for Restaurant Staff and Owners
Paul S. Hewitt has the same piece of advice for all restaurants he works with: The less you control the tips, the better.
As soon as an establishment has “control” over tips – by including them as a mandatory service charge, by determining how they’re split among service staff, or by simply counting them as business income – they can count toward an employee’s official remuneration, and therefore become subject to income-related charges such as Canada Pension Plan deductions and employment insurance premiums.
“The key is not to co-mingle the [tip] money with your restaurant’s revenues,” says Mr. Hewitt, a Toronto-based chartered professional accountant who ran restaurants for nearly 15 years and now advises a number of service-industry clients on tax and audit issues.
The unwritten rules around tipping are confusing, cumbersome and often inequitable, to the point that there’s a growing movement to kill tips altogether. That doesn’t mean they’re going away any time soon. And the way establishments handle tips for tax purposes can have an impact on how much they wind up paying the government.
Because “it’s easier to call us than Canada Revenue Agency,” says James Rilett, Ontario vice-president of Restaurants Canada, the food-service industry group fields questions about tips constantly. “It’s actually one of the most frequent questions I have from newer members.”
Canada Revenue Agency distinguishes between two different kinds of tips for most of the country: direct and controlled. Direct tips are those that flow straight from the customer to the employee, such as cash tips and debit or credit-card tips that are passed back to service staff in cash. Those aren’t eligible for CPP contributions or Employment Insurance premiums. (In Quebec, however, tax legislation requires employees to declare direct tips to their employers.)
If an establishment interferes with tips’ distribution, though – like determining how they’re spread among service staff or through adding an auto-gratuity – the tips can be considered controlled, and therefore company income, which can lead to deductions for both employer and employee.
In the simplest terms, Mr. Rilett says, “If it’s only handled by the server, then the restaurant has no responsibility.”
When it comes to cash, it’s easy for non-Quebec employers to keep their hands off tips and let their serving staff distribute tips among themselves. But it can be more complicated than that when debit and credit is used and point-of-sale machines get involved.
Any tips that come attached to service staffs’ regular paycheques is eligible for tax deductions, so businesses generally make sure the money stays separate. It’s best to let employees handle everything themselves: When Mr. Hewitt advises restaurants and bars, he tells them to cash electronic tips out as soon as possible and give it to employees. If they pool it to distribute between different service staff – cooks, for instance, don’t get the client-facing perks that servers do – it’s best to make sure the employees decide among themselves how to divide the tip pool.
When asked to clarify if there are time limits on distributing credit- and debit-originated tips, a CRA spokesperson said in an e-mail, “If an employer, for cash flow reasons, delays paying out the tips to the workers, the employer is merely a conduit for the tip from the client to the worker and the tip would still be considered to be direct and would not be subject to CPP and EI deductions.”
Auto-gratuities – like those charged to large groups of, say, six or more – are considered “controlled” tips by CRA, too, and eligible for taxation. Mr. Hewitt says it’s possible to get around the taxes involved with those by writing them onto the bill by hand, skipping the point-of-sale machine entirely.
The notion of what tips should and shouldn’t get taxed is an “extremely grey” area, says David Hopkins, president of Fifteen Group, a Toronto-based restaurant consultancy. So, he says, it’s implicit in much of the industry that management shouldn’t touch any tips. “At the end of the day, as far as we’re concerned, and the restaurants we work with are concerned, they don’t control any tip distribution.” (It’s a touchy subject – numerous restaurants that The Globe contacted for this story either declined to speak or avoided comment altogether.)
“There are no laws in Canada about restaurateurs or operators being responsible for tracking and accounting for employee tips,” says Douglas Fisher, president of FHG International food-service consultants, “unlike in the U.S., where employers must record and file tip information.”
For service staff, direct tips aren’t eligible for CPP contributions or EI premiums. Still, it’s extremely common for employees in the service industry to declare either none or very little for their taxes. To avoid audits, Mr. Fisher says, “a lot of restaurant employees come together at tax time and decide what they declare as a group, so no one stands out.”
Jane, a bartender in Toronto with 15 years experience, said that she knows people who claim nothing, but “generally the rule of thumb is 10 per cent.” Point-of-sales systems can create a paper trail, she says. “I don’t know anyone who keeps an extra copy of that piece of paper.”
Even in Quebec, where tips are significantly more regulated, cash tips can go untraced. One Montreal server, whose previous employer would tabulate tips at the end of every shift, says in her current role, “I don’t declare cash tips.”
But as technology makes transactions easier to trace, tips are harder to conceal. New legislation in Ontario has made it illegal for employers to take a cut of tips, too, shining a light on how the service industry operates. And a recent court decision in Ontario regarding tips received and distributed by Andrew Peller Ltd. found that when a company goes to great lengths to account for and distribute tips, “It appears that the courts would rule that the employer is the one that is paying the tips,” Mr. Hewitt says.
So for now, he says, “Under the current state of the law, I advise my clients not to take any control over tips.”