Employee wages and raising the minimum wage has been a hot topic for HR professionals and organizational leaders for a little while now as inflation continues to rise, yet wages have not increased at the same pace. Raising the minimum wage may have various effects on several industries, but one that is likely to see larger effects is the hospitality industry. This is mainly due to the large portion of tipped workers it consists of and the recent legislature to remove the tip credit which businesses in this industry were given.

What is a tip credit? The Fair Labor Standards Act created the tip credit model to allow restaurants and businesses in the hospitality industry to pay their tipped employees a lower hourly rate than minimum wage due to their income being primarily derived from tips. However, there are strong worker protections involved. Employers are required to pay employees the difference in wages if their tips do not equal at least the state minimum wage. For example, in the state of Michigan, the minimum wage is $10.33; therefore, if the employee does not make at least that per hour in tips, the employer will pay the difference. This has historically allowed businesses to afford ample waitstaff and keep menu prices lower.

In 2023, the federal Raise the Wage Act was introduced. Its aims to increase the federal minimum wages and also remove the tip credit model. The current federal wage for tipped employees is $2.13 with the tip credit being about $5.12. This may seem cause for concern, but the average tipped worker makes $27/hr. with the highest paid workers making $40/hr., so often much more than the minimum wage they would likely make in non-tipped positions.

Most states offer tip credit to businesses to allow them to pay lower wages that are in turn offset by tips received by patrons and customers. Some states have chosen to remove the tip credit on their own terms outside of the act. However, there is an overwhelming consensus from hospitality workers and employers that they don’t want the tip credit removed.

So why are restaurant owners and employees so against it? Removing this credit could be detrimental to many small businesses in this industry as they may not be able to afford higher wages, must increase menu prices, or even close permanently. As previously mentioned, tipped workers often make much higher than minimum wage, and removing their tipped income to a standard hourly rate would be a large pay cut for many, potentially causing them to exit the industry as it is unrealistic for restaurants to pay their servers $40 an hour. States that have removed the tip credit include Alaska, California, Minnesota, Montana, Nevada, Oregon, Washington, and Washington D.C. Michigan will soon join that list due to the recent Michigan Supreme Court Ruling.

The CEO of the Michigan Restaurant and Lodging Association prepared this statement in response to the recent Michigan Supreme Court ruling that re-enacts the 2018 Earned Sick Time Act (ESTA) and Improved Workforce Opportunity Wage Act (IWOWA) laws that remove the tip credit in Michigan. “This action must consider the perspectives of both industry operators and tipped employees who have overwhelmingly expressed their preference to preserve the tip credit and the earning potential it provides." Researchers say if the Michigan Supreme Court actually implements the policy now in place to remove the tip credit incrementally starting in 2025 and phasing it out by February of 2029, employers can expect a $48.2 million dollar increase in payroll costs as well as tens of thousands of jobs lost, and businesses shut down.

The association urges businesses and employees in the industry to voice their concerns to lawmakers in hopes for an amendment to keep the tip credit model in Michigan. It appears chain restaurants across multiple states are remaining profitable without a tip credit. Some research has shown that average earnings of waitstaff were higher in the states with no tip credit. However, that was pre-pandemic and does not consider other factors, like the cost of living in that state. There may be some benefits to paying waitstaff higher hourly rates. For example, it removes the pay volatility due to the difference in volume per shift. Most tipped employees also do not receive PTO, healthcare benefits, or retirement benefits; whereas non-tipped workers are more likely to be provided these benefits.

Although the federal Raise the Wage Act is intended to require fair wages for all employees across the country, it may not serve all types of employees, particularly tipped employees in the hospitality industry. The act was introduced to the senate and remains there for the meantime. While the act is under review, states can continue to pass legislature to remove their tip credit and raise wages regardless of the federal law, similar to what is in store for Michigan. It will be interesting to see if any modifications to the act are made in efforts to preserve the tip credit federally for states or at least come to a solution that works for all involved parties.

Sources:

Allegretto, S. (2024, March 27). Customer tips are providing the lion’s share of wages to tipped workers. Center for Economic and Policy Research. https://www.cepr.net/report/customer-tips-provide-lion-share-of-wages-to-tipped-workers/

Forman, A. S., & Popper, N. G. (2024, August 8). Changes coming in 2025 to Michigan Minimum Wage, tip credit, and earned Sick Time. Workforce Bulletin. https://www.workforcebulletin.com/changes-coming-in-2025-to-michigan-minimum-wage-tip-credit-and-earned-sick-time

Minimum wages for tipped employees. DOL. (2024, July 1). https://www.dol.gov/agencies/whd/state/minimum-wage/tipped

Romeo, P. (2024, August 2). Michigan Court puts the state’s tip credit in peril. Restaurant Business. https://www.restaurantbusinessonline.com/workforce/michigan-court-puts-states-tip-credit-peril

S.2488 - raise the Wage Act of 2023. (n.d.). https://www.congress.gov/bill/118th-congress/senate-bill/2488

Tip credit. National Restaurant Association. (2024, April). https://restaurant.org/issues-and-advocacy/policy-agenda/tipping/