Have you ever gone to pay for your coffee or lunch and saw the tip jar at the local café counter, and wondered how (or if) the business and/or its staff accounts for tax on that money? Depending on a number of factors, this can add up to quite a sum over a year, assuming the café owner empties the jar each day. Not surprisingly, the taxman has thought of this scenario, and has devised guidance for dealing with “tips and gratuities”.

If a diner at a restaurant leaves a tip for their helpful waiter, employment laws and bodies such as Fair Work Australia would not consider this money to count towards that employee’s salary or wage.

The ATO, however, takes a different view. It deems any tips that employees receive, either directly from customers or distributed by the employer, as needing to be reported by the individual as income if the employee is to lodge an income tax return. A taxation ruling states: “The receipt of ‘tips’ by a hospitality employee is assessable income under paragraph 26(e) of the Act”.

However, there is another tax consideration.

The customer who gives a tip in addition to paying for the meal may do so on a purely voluntary basis, as the money is intended as a reward to the employees who provided good service. It may be paid by way of cash or credit card, and as the restaurant operator passes on the tip to the employee it becomes, as noted above, considered by the ATO to be assessable income in their hands (assuming it is declared).

But from the business’s point of view, does this tip form part of the “consideration for the supply” of restaurant meals by a restaurateur to the customer?

The ATO says “No”, but holds that the voluntariness or otherwise nature of the payment is key to the tax outcome. It says that a tip or gratuity is not a consideration for the supply by the restaurateur provided that the tip is passed on to the employees as intended.

A part of the GST rules states that “consideration includes any payment, act or forbearance, in connection with, in response to, or for the inducement of, a supply of anything”.

So for a tip to be a consideration for the supply of meals and beverages, the ATO expects this money to meet the above particulars. A genuine tip, paid on a purely voluntary basis, is intended to go to the employees who provided the service. The tip does not form part of the consideration for the supply of the restaurant meal, but the ATO expects that the receiver of that gratuity (the hospitality employee) will be required to account for these sums as assessable income.

In its guidance, the ATO adds two notes.

Note 1: An entity must keep records showing that tips have been passed on to employees and not retained as part of the entity’s business takings. If a tip is not passed on to the employees, then the tip is a consideration for the supply by the restaurateur.

Note 2: If a tip is not paid voluntarily, for example, it is a pre-determined rate or an amount that is otherwise defined as a service charge, public holiday surcharge or similar, then the tip is a consideration for the supply by the restaurateur.