Tips

Tips are extra money that customers give to employees for great service.

By
Homebase Team
4
Min Read
Payroll

What are tips?

Tips are extra money that customers give to employees for great service. If you run a business where tipping is common—like a restaurant, bar, or salon—it’s important to understand how tips work, how they impact payroll, and what your responsibilities are as an employer. 

What are the types of employee tips?

Not all tips are the same. Here’s a quick breakdown:

  • Cash tips: Given directly to employees in cash.
  • Credit card tips: Added to a customer’s card payment and later distributed to employees.
  • Tip pooling: A system where all tips are collected and shared among employees.
  • Service charges: Automatic fees added to a bill (like for large parties at a restaurant). These aren’t considered tips but count as regular wages.

What are employer responsibilities for managing tips?

If your employees earn tips, here’s what you need to stay on top of:

  • Tracking tips: Employees must report their tips so you can withhold the correct taxes.
  • Minimum wage compliance: Even if you take a tip credit, employees must still earn at least the federal or state minimum wage when tips are included.
  • Withholding and reporting: Employers must ensure all tip income is taxed properly and reported to the IRS.
  • Choosing the right tip structure: Whether through tip pooling, tipping out, or other methods of paying tips, employers need to set a policy that complies with labour laws. 

How do tip credits work?

A tip credit allows businesses to count employees’ tips toward meeting the minimum wage requirement. For example, the federal minimum wage is $7.25 per hour, but employers can pay tipped employees as little as $2.13 per hour as long as their total earnings (wages + tips) reach at least $7.25.

Some states don’t allow tip credits and require employers to pay the full minimum wage, so it’s important to check local labor laws on tipped minimum wage.

What are tax responsibilities for tipped employees?

Taxes on tips can be a bit tricky, but here’s what you need to know:

  • Employees must report cash tips of $20 or more per month so payroll taxes can be withheld.
  • Employers must withhold Social Security, Medicare, and federal income taxes on reported tips.
  • Employers may also need to pay payroll taxes on these tips.

If you’re managing a team of tipped employees, keeping payroll simple is key—but not always as straightforward as employers would want it to be.

There’s always a solution, though! Payroll management software makes tip reporting and tax compliance easy, so you can focus on running your business without worrying about payroll errors.

What are mistakes should you avoid when managing tips?

Tipping laws can be confusing, and mistakes can lead to compliance issues. Some common pitfalls include:

  • Not keeping records of reported tips: The IRS requires accurate records of all tip income.
  • Miscalculating tip credits: Paying employees too little can result in wage violations.
  • Forgetting to pay payroll taxes on tips: Employers still owe taxes on reported tip income.

Avoiding these mistakes ensures you stay compliant and keep your employees happy.

How Homebase makes payroll easier for tipped employees

Running payroll for tipped employees doesn’t have to be a headache. Homebase payroll helps you:

  • Track and report employee tips easily.
  • Handle tax withholdings automatically, so you stay compliant.
  • Pay employees on time with direct deposit.
  • Ensure tipped workers always meet minimum wage requirements.

Sign up for Homebase today and take the stress out of managing payroll for tipped employees.

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