When a customer leaves a gratuity for an employee, California law prohibits an employer from:

• Collecting or receiving any part of the gratuity left for the employee;
• Deducting from the employee's wages any fees and costs to the employer associated with the customer's use of a credit card to leave the gratuity; or
• Crediting the gratuity against the employee's wages to satisfy wage requirements.1

The prohibition on an employer collecting or receiving gratuities left for an employee extends to the employer's agent as well. The law defines an “agent” as every person other than the employer who has the authority to hire or discharge any employee or supervise, direct or control the employees’ actions.2

Although the Fair Labor Standards Act (FLSA) permits an employer to take a tip credit toward its minimum wage and overtime obligations for tipped employees, California does not allow tip-credits, meaning California employers may not pay employees below minimum wage as a result of credits for tips received.

• Effective January 1, 2026, California expanded its enforcement efforts in this area, authorizing the California Labor Commissioner to investigate and issue a citation or file a lawsuit for tips and gratuities taken or withheld in violation of California law.3

Tips and gratuities are subject to income tax.

Tip Pooling

Employees may voluntarily agree to pool or share their tips. In a tip pool, employees who receive tips share those tips with other employees. Tip pools spread the risk of low-tipping patrons among all tipped employees. Tip pools also create a way for tips to be shared with employees considered deserving of tips, but not directly tipped by customers, such as table bussers.

Although California law doesn't specifically prohibit involuntary tip pooling, in which you require employees to pool all or a portion of their tips and then share those tips with other employees who contribute to the patrons' service, tip pools cannot include the employer or any "agents of the owner," such as managers and supervisors, because employers and their agents cannot share in employee tips.

For example, requiring an employee to share tips, which they received directly from customers, with a floor manager who meets the definition of "agent" under the law would be unlawful.

California law does not prohibit an agent of the employer from keeping a tip that is given to them by a customer. For example, in one case, the court allowed an employer to require that tips left in a collective tip jar for a team of service employees be split between the whole service team, including shift supervisors on the team. In that case, the court found that for the most part, shift supervisors and employees performed the same job, that they rotated jobs and worked as a team throughout the day, that customers intended to place tips in a collective tip box to reward all service employees and that the employer's manner of dividing the collective tip boxes among the service employees (based on time worked by each employee) was fair and equitable.4 The court distinguished this case from cases that prohibit tip pooling with an employer's agent because the collective tip box included tips for the shift supervisors' service and was not a collection of individual employee tips that the employer forced the employees to share.

Tip pooling arrangements — and who can participate in them — have been the subject of both state and federal regulations.

The federal regulations provide that only employees may participate in tip pools, and back-of-house staff, such as dishwashers, line cooks and kitchen staff, may share in tip pools if the employers pay all employees at least the minimum wage without credits for any tips received.5

California law has long prevented managers and supervisors from participating in tip pools. Additionally, California doesn’t allow tip-credits, meaning employers may not pay employees below minimum wage as a result of credits for tips received.

• California employers who use tip pools should consult with legal counsel to ensure compliance.

Automatic Gratuities and Mandatory Service Charges

Mandatory service charges differ from gratuities because they are not voluntarily left for employees; instead, they are required and collected by the employer. Examples include an automatic gratuity or a mandatory service charge added to bills for large parties or banquets, In most instances, when a business establishes a non-voluntary, flat charge or a set percentage of a bill that must be paid by the customer, that amount belongs to the business and is not classified as a tip or gratuity left for the employee.

However, depending on the circumstances and how it is communicated to customers, a "service charge" could potentially meet the statutory definition of a gratuity.

This practice also has wage and tax implications for employers. The Internal Revenue Service (IRS) treats automatic gratuities as “wages” for payroll tax purposes.

• Employers using mandatory service charges should ensure they are accurately labeled and clearly communicated, and consult legal counsel with questions regarding compliance.

Simply labeling a dollar amount as a “tip” doesn’t mean it really is a tip. According to the IRS, a tip must have the following four characteristics:

• The payment must be made free from compulsion;
• The customer must have the unrestricted right to determine the amount;
• The payment should not be the subject of negotiation or dictated by employer policy; and
• Generally, the customer has the right to determine who receives the payment.

The absence of any one of the above factors “creates doubt” as to whether a payment is a tip and indicates that the payment may be a “service charge.”

Besides the payroll tax implications, the distinction between whether the amount added is a tip or a service charge can affect employee wages.

A service charge belongs to the business; it's not left for the employee. Therefore, according to the DLSE, if an employer pays out all or a portion of the service charges to employees, these payouts must be included in the employee's regular rate of pay and must be factored into any overtime calculation. For more information on how to calculate the regular rate of pay, see Calculating Overtime.

Credit Card Tips

If you permit patrons to pay tips by credit card, employees must receive their tip amounts no later than the next regular payday following the date the patron authorized the credit card payment. You must keep accurate records of tips received, including those received by employees through a customer's credit card.6 You must pay the employee the full amount of the gratuity that the customer indicated on the credit card slip, without any deductions for any credit card payment processing fees or costs that you may be charged by the credit card company.7

Any amounts paid directly by a patron to a dancer covered by Wage Order 5, Public Housekeeping Industry, or Wage Order 10, Amusement and Recreation Industry, are considered gratuities.8

1. Lab. Code sec. 351(a)