Tips & Tax
The task of taxing tips can sometime be a confusing area for both employees and employers.
Take Stock spoke to Alex Skinner, a hospitality accountancy specialist at Perrys Chartered Accountants to advise what should be done…
Do employees pay tax on tips?
Yes. Employees pay Income Tax on tips and any income over and above the tax free personal allowance of £11,500. All tips must be declared and it depends which tax band your collective income falls under whether tax on tips is paid at 20%, 40% or 45%. However, tips do not count towards an employees wage and can’t be used to substitute this.
Who is responsible for declaring tips?
An employer must declare all tips received from customers through the payroll. Taxes on tips are deducted via PAYE depending on the frequency of the payroll run before being provided to the employee. It is the responsibility of the business owner to operate PAYE.
What if an employee is given a cash tip direct from a customer?
Then it is their responsibility, rather than the employer, to notify HMRC of the tips received. Tips can either be declared on an annual self-assessment return or by contacting HMRC directly on 0300 200 3310. However, best practice would be to pool all tips via a ‘tronc’ system, as this would encourage a team ethic to work together to produce good service.
What is the ‘tronc’ system?
A way to simplify the tipping process and make paying tax easier. Although Income Tax still needs to be paid on a tronc system, the scheme is exempt from National Insurance (N.I.) contributions, so long as the employer has no influence on how tips are shared out. To set up a tronc, you need somebody willing to be appointed as ‘troncmaster’. This is usually an employee responsible for collecting all staff tips and service charges into a central pot and distributing to staff, usually via the payroll. Tips paid via this system can qualify for exemption from N.I. contributions, and will only be subject to Income Tax. Companies are allowed to deduct money for administrative costs – such as card fees – but many will absorb the costs and distribute 100% of tips to staff.
Are tips and service charges the same thing?
No. Service charges are added to the bill before it’s given to the customer. They can be paid voluntarily or be compulsory as part of the bill. Depending on which, this will affect the tax treatment of any of these amounts distributed to staff.
How is tax on tips worked out?
Income Tax is always due on service charges distributed to staff, and in the case of compulsory charges, N.I is also applicable regardless of how the charge is shared with employees. If voluntary charges are paid by the customer, N.I is only applicable if there is a contractual obligation to provide a certain level of tips to staff or where the employer has an influence on how tips are distributed. In the case of voluntary tips these too are subject to Income Tax and, in some cases, N.I. Tips provided in this way will either be paid directly to staff or pooled into a tronc arrangement. There is no current legal requirement for the total amount of the service charge to be distributed to staff – this is entirely at the discretion of the employer.
What happens if a customer tips using a card or cheque?
Any tips that are paid electronically can be added to an employees wage by their employer. If tips are distributed this way, they are subject to Income Tax and N.I deductions which the employer is responsible for paying via the company payroll. Tips received by cheque or card can also be collected together and shared out to staff via the tronc system. N.I. would not apply if all decisions regarding tip distribution are made by the troncmaster.