Restaurants and some other businesses that use employees partially compensated by tips can claim a tip credit toward the Fair Labor Standards Act’s minimum wage requirements. However, the FLSA strictly regulates the servers’ entitlement to such customer gratuities. Last month, the Fifth Circuit Court of Appeals addressed a novel question over the employer’s ability to deduct certain service fees from tips paid via credit cards.

In Steele v. Leasing Enterprises, Ltd., the employer paid tipped employees the applicable $2.13 federal minimum wage, and made up the difference between this and standard minimum wage through claiming the tip credit. However, the employer deducted 3.25% of servers’ tips paid through credit cards. The employer attributed this deduction to (1) credit card issuers’ fees; and (2) the cost of converting the credit card receipts to cash paid to the employees on a daily basis. The plaintiffs filed a collective action FLSA case contending that the defendant had improperly deducted fees from their tip income.

The Fifth Circuit agreed, noting that Department of Labor regulations issued under the FLSA only allow employers to deduct fees charged by the credit card companies. The other cash conversion portion of the fee violated the DOL rules because it resulted from the employer’s decision to pay daily cash tips, and not from fees associated with the use of the credit cards themselves.

Although the DOL rules allow employers to average certain credit card fee deductions from tips, those deductions cannot include amounts not directly associated with the card issuers’ charges to the business. Failure to abide by this restriction will result in loss of the applicable tip credit, and will subject the employer to claims for minimum wage payments, double damages and attorneys’ fees.