Restaurant Gratuity: What Is It? Is It The Same As Tipping?

Restaurant service staff are heavily dependent on gratuity and tips from customers. In fact, according to the United States Department of Labor, the federal minimum wage for tipped employees is just $2.13 per hour.

While restaurants must make up the difference if tips don’t reach the standard minimum wage threshold, this often isn’t enough to make ends meet.

So, to help boost pay for workers, many restaurants implement mandatory gratuity. Meanwhile, to make things even more confusing, others add service charges to customers’ bills, which may or may not go to their staff.

But what is gratuity, and how does it differ from a tip? And how are they both different from a service charge?

Well, in this article we’ll explain what exactly gratuity is, as well as explore the difference between restaurant gratuity, tipping, and service fees. We’ll also look at the evolution and future of gratuity, its impact on the dining industry, and various global perspectives on gratuity.

Key Takeaways

• Restaurant gratuity is a fixed and mandatory fee that restaurants often add to bills for large parties to compensate service staff. 

• Tips are voluntary and discretionary payments that diners give directly to employees.

• A service fee is a mandatory charge that restaurants add to customers’ bills to cover the overall cost of service. Restaurants have more discretion in how they use service charges, meaning they don't necessarily go towards compensating staff.

• Tips have different tax implications than gratuity and service charges. This is largely because tips are voluntary, whereas gratuity and service charges are mandatory.

• Restaurants need to maintain a delicate balance between staff compensation and customer satisfaction when determining gratuity policies.

Restaurant Gratuity vs. Tipping: What’s The Difference?

Although the terms “gratuity” and “tip” might seem interchangeable, there are actually a few important differences between them.

So, let’s take a look at what each term means before explaining the difference.

What Is A Tip?

Customers leave a tip after receiving their bill at a restaurant. There are a few defining elements that make up a tip, including:

• It’s voluntary

• It’s discretionary, meaning the customer decides how much to tip

• Customers typically give them directly to their server, though some restaurants have tip-sharing policies in which tips are pooled together and then distributed among staff

Whether to tip and the amount of a tip usually varies based on the quality of service and the particular customer’s preferences.

Additionally, tax laws require that service staff report their tips to the restaurant for tax withholding and payroll taxes. The restaurant must then report these tips to the IRS.

What Is Restaurant Gratuity?

Gratuity, on the other hand, refers to a predetermined charge that a restaurant adds to a bill. Some defining elements of gratuity include:

• It’s typically a fixed percentage of the total bill

• Restaurants usually collect gratuities and then distribute them among staff members according to their policies

• You can’t opt out of paying gratuity

Restaurants often add gratuity automatically for large parties because of the additional difficulties involved in serving big groups of diners. Importantly, gratuity is not determined by the quality of service or customer preferences.

Lastly, tax laws treat gratuity as revenue for the restaurant, meaning that it’s subject to sales tax. Additionally, the gratuity is subject to payroll taxes when distributed to employees.

Is Restaurant Gratuity The Same As A Tip?

While gratuity and tips are similar in that they compensate service staff, the key difference is that it’s mandatory to pay gratuity, while leaving a tip is voluntary. Because of this, gratuity is subject to both sales tax and payroll taxes, while tips are only subject to payroll taxes.

Additionally, gratuity is typically a fixed percentage of the total bill, while the amount of a tip is at the discretion of the customer. Tips often depend on the quality of service and customer preferences, while gratuity does not.

One more difference is that customers often tip staff directly, while restaurants always collect and manage the distribution of gratuity to employees. 

Service Charge vs. Restaurant Gratuity: What’s The Difference?

To further complicate matters, some restaurants implement a "service charge" instead of or in addition to gratuity. 

This is a fee that restaurants add to the bill to cover the overall cost of service, meaning the restaurant has more discretion in how they use service charges. The service fee may cover operational expenses beyond staff wages.

Unlike tips and similar to gratuity, a service charge is mandatory, meaning you must pay it.

Additionally, tax laws typically treat both gratuity and service charges as part of a restaurant’s revenue. This means that, unlike tips, they are both subject to sales tax.

Finally, gratuity is also subject to payroll taxes, and service charges are subject to payroll taxes if distributed to employees.

How Has Restaurant Gratuity Evolved?

The history of tipping may date back as far as the Roman era, but it first came to the United States soon after The Civil War. Some hospitality businesses hired free slaves, paid them small wages, and encouraged customers to leave tips.

While tipping faced intense opposition in the late 1800’s, it became more commonplace during Prohibition. The ban on the sale of alcohol beginning in 1920 caused many hotels to turn bars into lunch rooms, and they used tips to supplement workers’ wages.

Over the century or so since then, tipping has become the norm nationwide, and the COVID-19 pandemic caused further shifts in tipping culture.

For example, a Pew Research Center survey found that 72% of adults say tipping is expected in more places compared to five years ago. To combat “tipflation,” some restaurants have experimented with getting rid of voluntary tipping and opting for service charges and mandatory gratuity.

Additionally, more restaurants began using service fees and mandatory gratuity models during the pandemic to increase pay for workers who were receiving less tips.

In an interview with University of Colorado Boulder, economics Professor Jeff Zax said:

“I think the economy would be healthier without it [tipping] altogether, and I’m very encouraged to see that at least some businesspeople are coming to understand that… No one ever said, ‘I don’t care if I don’t get tips.’ Workers think of it as part of their compensation. This discrepancy, this incongruity, creates an inefficiency in the way markets work. Markets work best when everyone knows what the prices are. And with tipping, nobody really knows.”

However, many restaurants are hesitant to shift to these models because of the tax implications. Since the IRS considers mandatory charges part of restaurants’ revenues, owners must pay sales tax on these charges.

What Is The Impact of Gratuity?

It’s important for diners, restaurant owners and workers, and regulators to understand how gratuity works. 

Below, we discuss how tips and gratuity charges impact all of these stakeholders.

Impact On Servers and Staff

For many service workers, tips and gratuities make up a significant portion of their income. This means the structure of gratuity distribution can greatly impact their earnings and job satisfaction.

After all, restaurants can typically pay these employees below minimum wage, with the expectation that tips and gratuity will make up the bulk of their income. 

While restaurants must make up the difference if their wages amount to less than minimum wage, this typically doesn’t equate to a living wage.

For example, MIT’s Living Wage Calculator indicates that a living wage in West Virginia, a state with one of the lowest costs of living, is $18.94 an hour for a single worker with no children. At the same time, the state’s minimum wage is $8.75 per hour.

Meanwhile, in Pennsylvania, which has a higher average cost of living than West Virginia, the minimum wage is just $7.25 an hour, while a living wage is $21.95 per hour.

Clearly, if restaurant workers hope to make a living wage, they are dependent on gratuity and tips.

Impact On Restaurant Owners

Gratuity policies can also have a big impact on restaurant owners for several reasons. 

One of the most important is that understanding the difference between tipping, gratuity, and service charges is vital for accurate tax reporting and complying with labor laws.

Additionally, implementing the right gratuity policies is important for keeping your employees satisfied and boosting staff retention. After all, gratuity charges can provide more predictable and consistent income for waitstaff.

Remember, the cost of replacing an hourly restaurant employee averages about $6,000, meaning it's crucial to lower staff turnover rates.

So, restaurant owners must strike a balance between ensuring they adequately compensate staff, while maintaining a positive dining experience for customers. 

Impact On Customers

Gratuity policies also impact customers, shaping their dining experience and perception of value. 

For example, when gratuity is included in menu prices, it can provide clarity and prevent surprises when the bill arrives, potentially enhancing customer satisfaction. 

However, if gratuity charges aren’t transparently communicated, customers may feel misled or overcharged, which can diminish trust and deter repeat business.

For customers, understanding gratuity policies ensures they know how much they’re expected to tip and why. This transparency can lead to a more pleasant dining experience and foster a positive relationship between the restaurant and its patrons. 

Additionally, knowing that gratuity directly supports service staff can encourage more generous tipping, further benefiting the employees.

Ultimately, effective communication of gratuity policies to both customers and employees can help avoid misunderstandings. This fosters trust and loyalty among all stakeholders.

Impact On Regulators

Regulators play a crucial role in overseeing gratuity policies to ensure fair labor practices and compliance with laws. They’re responsible for setting guidelines that define the proper handling of tips and gratuities, ensuring that workers receive their fair share. This includes:

• Establishing minimum wage laws

• Tip and gratuity credit regulations

• Enforcement of fair distribution practices

Regulators must also ensure that restaurants accurately report gratuity income for tax purposes. Misreporting can lead to significant issues, including tax evasion and unfair labor practices. By establishing clear regulations, they help maintain transparency and accountability within the industry.

Moreover, regulators need to balance the interests of workers, employers, and customers to foster a fair and sustainable restaurant industry. This involves:

• Monitoring compliance

• Addressing disputes

• Continually updating policies to reflect changing economic conditions and labor market dynamics

Overall, by effectively regulating gratuity practices, regulators help protect workers’ rights, ensure fair competition among businesses, and promote transparent and trustworthy dining experiences for customers.

Should Restaurants Charge Gratuity?

There are several legal and ethical considerations restaurants should take into account when deciding on gratuity policies.

When determining whether to charge mandatory gratuity or have wait staff collect voluntary tips, think about the following: 

• Consistency of Compensation: Charging a fixed gratuity can provide more consistent income for employees, reducing the variability that comes with voluntary tipping.

• Service Quality Incentives: Voluntary tipping can incentivize better service because staff know their earnings are tied directly to customer satisfaction, while mandatory gratuity can reduce the motivation for good service. Additionally, employees may earn less from mandatory gratuity than voluntary tipping if they provide excellent service.

• Customer Transparency: Hidden charges are not only a legal concern, but also an ethical one. Not clearly communicating gratuity policies to customers can cause dissatisfaction and hurt customer retention.

• Equitable Tip Distribution: Mandatory gratuity is collected by the restaurant, meaning the establishment must then ensure they distribute tips equitably. Meanwhile, customers usually give voluntary tips directly to wait staff, meaning restaurants don’t need to be as involved in tip distribution.

Of course, you should also be sure to think about the legal and regulatory aspects of gratuity, such as:

• State and Local Laws: It’s key to research all relevant laws related to gratuity and tipping.

• Labor Laws: While tipped employees can typically be paid less than minimum wage, they must make at least minimum wage after accounting for tips, meaning restaurants must make up the difference when applicable. Additionally, restaurants must adhere to gratuity pooling laws.

• Consumer Protection Laws: Restaurants charging mandatory gratuity need to clearly communicate this to customers.

Ultimately, restaurants must carefully consider these factors to create fair and compliant gratuity policies that support their staff and maintain customer satisfaction.

Global Perspectives on Restaurant Gratuity

So far, we’ve explored how restaurant gratuity works in the United States. However, tipping and gratuity practices vary widely around the world.

Here are a few examples of common gratuity, tipping, and service charge practices across the globe:

• Europe: Restaurants in Europe often add a service charge to the bill or include the service charge in menu prices. Employees don’t expect a tip, because they receive a living wage, though you may add an optional 5-10% tip for outstanding service.

• Japan: Tipping at restaurants in Japan is not expected, and can even be considered rude.

• Australia: Tipping at restaurants in Australia is entirely voluntary. If you do decide to tip, 10-15% is appropriate. Additionally, restaurants don’t typically add a service charge unless it’s a national holiday or you’re part of a large party.

• South America: Wait staff don’t rely as much on gratuity as they do in the United States, but it’s still an important part of their income. 10% of the total bill is an appropriate tip in many South American countries. Additionally, some restaurants add a charge for the table, but this isn’t a gratuity charge that goes to employees.

• Africa: You should generally leave a 10-15% tip at restaurants in Africa. Some upscale establishments may add a service charge or gratuity to the bill, in which case a tip isn’t expected, but is appreciated.

While gratuity can be more nuanced than the common practices listed above, the point is that they vary quite a lot from place to place. Understanding these global differences is important both for travelers and for the hospitality industry catering to international clientele.

The Future of Restaurant Gratuity

As the hospitality industry continues to evolve, so does the conversation around gratuity and tipping. Several trends shaping the future of gratuity include:

• Technology: Digital payment systems and apps are changing how restaurants collect and distribute gratuity. For example, many POS systems now prompt customers to voluntarily tip, and tip management technology can streamline gratuity distribution.

• Transparency: There's a growing movement for greater transparency in how restaurants handle gratuities and service charges.

• Alternative Compensation Models: Some restaurants are experimenting with no-tipping policies, incorporating service costs into menu prices and paying staff higher base wages.

Understanding Restaurant Gratuity Is Important For Everyone

For diners, understanding restaurant gratuity empowers them to make informed decisions about their tipping practices and to better understand their restaurant bills. 

Meanwhile, for restaurant owners and managers, knowledge of these issues is essential for creating fair compensation systems, complying with regulations, and meeting customer expectations.

Whether you're eating out or working in a restaurant, grasping the concepts of gratuity, tips, and service charges can help you navigate the modern dining landscape more effectively. 

Of course, the conversation around restaurant gratuity is likely to continue evolving. 

However, by staying informed and engaged, we can work towards systems that are fair to service workers, sustainable for businesses, and transparent for customers.