If you run a pub or restaurant, you’ll know that tips are a contentious issue.
Waiting staff often rely on this extra income, but do they have to pay taxes on them? The short answer is “yes”, but there’s more to it.
Depending on how tips are distributed, the responsibility for paying tax may fall on you or your employees. This can be confusing, so here’s our guide to how it works.
How are the tips distributed?
Tips are always subject to income tax and may incur National Insurance contributions (NICs). This will depend on the way in which your staff receive the money.
There are three main methods for distributing tips, and each has its own set of rules.
1. Tips are given directly to the employee
The first method of tipping is the most traditional. A customer has received great service and wants to reward the employee who provided it. At the end of their meal, they hand them a personal tip as cash.
In this scenario, it’s up to the employee to pay tax on the tip. They can do this by completing an annual self-assessment tax return and declaring their total tips for the year. They can also contact HMRC directly if the amount of tips they receive changes significantly.
HMRC will then change their PAYE tax code, allowing you to deduct the correct amount of tax from the employee’s pay. In either case, no NICs are due on tips given directly to employees.
2. Tips are pooled and shared among employees
Another common system is pooling tips and distributing them among employees regularly.
This is known as a “tronc”, and is looked after by the “tronc master”. The tronc master can be either an employee, the employer or an independent service, and this affects the way in which tax is paid:
- it is the troncmaster’s responsibility to deduct tax from tips before they are given to employees. This should be done through the PAYE process.
- if the troncmaster is the employer, or if the employer has control over how tips are distributed, national insurance must be paid by both the employer and the employee.
- if the employer is not involved in the process, no national insurance contributions are due.
3. Tips are given to the employer to be passed on to employees
Sometimes, a customer may pay a tip directly to the employer as part of their bill.
This is most common in the case of card payments. In this scenario, you’re responsible for deducting both tax and National Insurance contributions through the PAYE process.
What about service charges?
If a service charge is mandatory, it doesn’t count as a tip. Whatever proportion of the charge goes to your employees is treated as part of their normal wages. This means that it’s up to you to deduct income tax and national insurance through PAYE.
How can I make sure my staff pay the right tax?
Whichever tipping system you use, it’s important to ensure that everyone is paying the right amount of tax. For simplicity, it’s probably best to pick a single tipping system and stick to it.
If staff receive their tips directly from customers, you should make it clear that it’s their responsibility to pay the correct tax at the end of the year. Put this advice in writing, and keep a record of it for yourself.
If you prefer to distribute tips yourself, it’s up to you to ensure the correct amount of tax is deducted. This is a simpler approach, as it doesn’t rely on every member of staff to work out their own taxes.
The downside is that you’ll have to pay National Insurance, but you may decide it’s worth it for the sake of greater fairness and transparency.
The issue of tips can bring up strong feelings for employers and employees. We’re happy to offer advice if you’re struggling to find a solution that works from a tax perspective.