There’s been plenty of press this week regarding the U.S. Department of Labor’s proposed rules governing employer treatment of tips. Commentators are debating whether the proposed changes are a sensible return to the four corners of the Fair Labor Standards Act or a cash-grab for the restaurant industry at the expense of workers. We’ll leave the economic and political analysis to others, but we do think that it’s important for employers to understand exactly what the proposal is, and is not.

Some History

The Fair Labor Standards Act requires employers to pay a specified minimum wage (currently $7.25 per hour), plus overtime for any hours worked over 40 in a single workweek. Employees who “customarily and regularly receive tips” must still receive at least the specified minimum wage. However, employers can count up to $5.12 per hour of those employee’s tips toward the minimum wage. This is referred to as the “tip credit.”

The tip credit provision of the FLSA was enacted in 1966. Originally, the law did not include any restriction on employers’ use of tips, even allowing employers to require that all tips be turned over to the employer as a part of gross receipts. In 1974, Congress amended Section 3(m) of the FLSA to provide that the tip credit provision does not apply with respect to a tipped employee unless “all tips received by such employee have been retained by the employee, except that this subsection shall not be construed to prohibit the pooling of tips among employees who customarily and regularly receive tips.” This means that if the employer keeps any part of the tip pool, or shares it with “back of the house” personnel such as line cooks and dishwashers, it risks losing the tip credit and being obligated to pay employees the full cash minimum wage.

Section 3(m) does not expressly address the question of whether there are any restrictions on treatment of tips when an employer pays tipped employees the full minimum wage in cash rather than taking advantage of the tip credit. In 2010, the Ninth Circuit Court of Appeals weighed in on that issue in Cumbie v. Woody Woo, Inc., holding that Section 3(m)’s tip retention requirements applied only to employers that actually use the tip credit provision. The court explained:

"If Congress wanted to articulate a general principle that tips are the property of the employee absent a “valid” tip pool, it could have done so without reference to the tip credit. “It is our duty to give effect, if possible, to every clause and word of a statute.” [Citation omitted.] Therefore, we decline to read the third sentence in such a way as to render its reference to the tip credit, as well as its conditional language and structure, superfluous."

However, in 2011, the Department of Labor issued new regulations regarding the tip credit requirement, reaching the opposite conclusion regarding the applicability of the rules to employers that do not use the tip credit. Specifically, 29 C.F.R. 531.52 was revised to provide:

"The employer is prohibited from using an employee’s tips, whether or not it has taken a tip credit, for any reason other than that which is statutorily permitted in section 3(m): As a credit against its minimum wage obligations to the employee, or in furtherance of a valid tip pool. (Emphasis added.)"

In 2012, the Oregon Restaurant and Lodging Association sued to block the new regulation, arguing that the Department of Labor exceeded its authority under the FLSA by re-interpreting Section 3(m) to apply to employers that do not take the tip credit. The Association initially prevailed, with the district court ruling that the revised regulation was invalid. The Department of Labor appealed to the Ninth Circuit Court of Appeals, which consolidated the appeal with another case, Cesarz v. Wynn Las Vegas, raising the same issue. The Court of Appeals reversed the ruling, holding that the district court should have deferred to the U.S. Department of Labor’s new interpretation of the statute. That ruling has been appealed to the U.S. Supreme Court, which has yet to determine whether it will take up the case. The Ninth Circuit’s ruling is stayed until the matter is resolved by the Supreme Court, and the DOL has decided as a matter of enforcement policy that it will not seek to enforce the rule within the Ninth Circuit (including California, Alaska, Idaho, Montana, Nevada, Arizona, Hawaii, and Oregon) for the time being.

Three other federal appellate courts have rejected the Ninth Circuit’s conclusion, finding the 2011 rule is invalid. These include the Fourth Circuit (with jurisdiction over Maryland, Virginia, West Virginia, and North and South Carolina) in Trejo v. Ryman Hospitality Properties, Inc., the Tenth Circuit (Kansas, Oklahoma, Utah, Wyoming, Colorado, and New Mexico) in Marlow v. The New Food Guy), and the Eleventh Circuit (Florida, Georgia, and Alabama) in Malivuk v. Ameripark, LLC.

The Proposed Regulation

Now, the Department of Labor is seeking to reverse course on the 2011 rule. The new proposal would re-write 29 C.F.R. 531.52 to read, in relevant part:

"An employer that takes a tip credit is prohibited from using an employee’s tips for any reason other than that which is statutorily permitted in Section 3(m): As a credit against its minimum wage obligations to the employee, or in furtherance of a valid tip pool.” (Emphasis added.)"

Contrary to some hyperbolic headlines, the regulation does not apply to all tipped employees, but only to those who receive the full federal minimum wage in cash. The rule also does not supersede state laws, some of which include separate restrictions on tip sharing practices.

According to the DOL, it is advancing this proposal because it has “serious concerns that it incorrectly construed the statute in promulgating its current tip regulations to apply to employers that have paid a direct cash wage of at least the full Federal minimum wage to their tipped employees and serious concerns about those regulations as a policy matter.” The history above makes the legal concerns fairly clear: the 2011 rules were arguably a departure from prior interpretations of the statute, and have already been ruled invalid by most of the federal appellate courts to have considered the issue. Given the split in authority and the current makeup of the Supreme Court, it would not be surprising if the Court did take up the issue and found the current rule invalid.

From a policy perspective, the DOL mainly cites increased employer flexibility, the ability to address wage disparities between tipped employees and “back of the house” staff such as cooks, and the benefits of allowing all employees who contribute to the service experience to share in the tip pool. Opponents of the move suggest that employers could address any wage disparity by simply increasing wages of those who are paid too little, and express concern over giving employers even more control over how tips are distributed and used. (For a summary of the arguments from both sides, check out this article from Eater.)

What Now?

The DOL will be accepting public comments on the proposed rule until January 4, 2018. As of Friday, December 8, nearly 1,500 comments have already been submitted. An un-scientific survey (consisting of your author quickly flipping through the submitted comments) suggests that the vast majority of those submitted so far are from individual citizens opposed to the change.

Notwithstanding the negative comments, it seems highly likely that the final rule will be published in something like its present form, and given the language of Section 3(m) of the FLSA it seems likely that it will pass muster with the courts absent some procedural misstep by the DOL in its rulemaking process.

That being said, before employers start to re-vamp their tip policies, they should be aware of a few things.

First, the new rule is not in effect yet. Yes, it’s likely coming, and yes at least in those states within the Fourth, Tenth and Eleventh Circuits, the current rule has already been held invalid. But elsewhere, the 2011 rule arguably remains in effect, and could still be the subject of private lawsuits even if the DOL is not inclined to take enforcement action. So don’t count your chickens before they hatch.

Second, once again, the new rule only affects employees who receive the full cash minimum wage, without the tip credit. The current rules remain in effect for employees whose cash wages are less than the federal minimum wage of $7.25 per hour. If you intend to take the tip credit, check out our prior posts on various ways employers can get in trouble by not complying with those rules.

Finally, employers must make sure that they comply with state and local law concerning tips, regardless of any changes that occur at the federal level. The new rule does not supersede those requirements.