If you’ve ever worked in the service industry, you’ve probably heard of (and participated in) tip pooling, which is a common way to share tips among tipped employees.
If you’re new to the concept, this article will cover everything you need to know: what it is, how it works, and how to stay compliant.
How tip pooling works
Tip pooling is very common in service-based workplaces like restaurants, bars, cafés, salons, hotels, and entertainment venues. All support staff—bussers, food runners, dishwashers, bartenders, and more—should be rewarded for the hard work they do during a shift, but customers rarely tip these people directly. A tip pool ensures they get a share of the tips they helped other workers earn.
Basically, tipped employees set aside (or “pool”) part of their tips, and at the end of each shift, that money is split among each tipped employee who worked during that time.
Tip pooling is different from tip sharing and tip splitting, so let’s quickly define each to differentiate them:
Tip pooling: All (or a set portion of) tips are collected into one pool and redistributed among eligible employees by a formula, such as hours worked or points. It's usually set by the employer as a written policy, and it's the most formal of the three.
Tip sharing (or tipping out): A tipped employee hands a portion of their own tips to other staff, typically a fixed percentage of tips or sales. For example, a server tips out 3% of sales to the bussers, barbacks, and bartenders. Each person keeps the rest of their own tips, so it's not a single shared pot.
Tip splitting: An informal, usually even division among a small group, like two bartenders splitting the night's tips or a coffee shop team dividing the tip jar. It's typically less structured and often decided by the team rather than the employer.
Who can participate in tip pooling?
Under the FLSA, a traditional tip pool involves front-of-house (FOH) employees who customarily receive tips (servers, bartenders, bussers, bellhops, and counter personnel).
The rules get a little trickier when back-of-house (BOH) staff are included in tip pools. The FLSA states that employers may introduce a “nontraditional” tip pool, which includes employees who would not regularly receive tips (think roles like dishwashers and cooks). To implement a nontraditional mandatory tip pool, the employer must already be paying all of its employees minimum wage.
No matter which arrangement management sets up, owners, managers, and supervisors can never participate in tip pools—only eligible employees can.
How tip pools are distributed
There are a few different ways to evenly distribute a tip pool:
Equal split: In an equal split, everyone working during a shift gets the same split of tip money. So three people working during a shift with a $1,000 pool would each receive $333.33.
The downside to an equal split is that it doesn’t take hours worked into account, so someone working a four-hour shift will receive the same share of the tip pool as someone working an eight-hour shift.Hours-based: This is the most commonly used tip pool split. In this arrangement, the total pool is divided by total hours to get a per-hour rate. Then each person gets paid out based on their shift length. For example:
$1,000 is pooled over 18 hours total, giving a per-hour rate of $55.56
Server A worked an eight-hour shift, so they receive $444.44
Server B worked a six-hour shift, so they receive $333.33
The busser who worked a four-hour shift receives $222.22
Points-based: This setup uses a points system to give each role a point value per hour, based on their level of responsibility. So a server might be assigned three points while a busser is assigned two. To calculate tips, multiply points by hours, then divide the pool by total points. For example:
$1,000 is pooled during a shift
Server A works eight hours and has three points, giving them 24 points
Server B works six hours and also has three points, giving them 18 points
A busser worked four hours and gets two points, giving them eight points
$1,000 ÷ 50 total points = $20 per point
Server A gets $480, Server B gets $360, and the busser gets $160
Percentage-based: In this arrangement, each role is assigned a fixed share of the pool, which is then split by hours within the role. For example:
Servers get 70% and bussers get 30%
Server A works eight hours, while Server B works six hours
Servers' share: $700, split by hours. Server A gets $400 and Server B gets $300
Busser's share: $300
Which method you choose depends on what makes the most sense for your business. If you’re unsure, start with hours-based, since it’s the most straightforward.
What to know about tip pool legal and tax compliance
The trickiest part of running a tip pool is getting the rules right. Many states have strict laws on the matter, which differ from federal rules. The key is knowing where to look.
Federal vs. state rules
The Fair Labor Standards Act (FLSA) sets the federal baseline for tip pooling. Besides the general rule that employers can't keep employees' tips, and managers, supervisors, and owners can't take money from a tip pool, there are other rules to consider as well. For example, service charges (like an automatic 18% on large parties) do not count as tips under federal law, so they follow different rules.
Many states take these rules further. Some states don't allow a tip credit at all (more on that in a moment), including California, Washington, Oregon, Nevada, and Minnesota. Others limit who can be in a pool or how you can deduct fees. When federal and state rules differ, you should follow whichever is more protective of employees. Check your state labor department's guidance before you set up or change a pool.
Tip credit requirements
If you pay tipped employees below minimum wage and count some of their tips toward minimum wage (a "tip credit"), federal rules require a few things:
Tell employees up front. You have to explain the tip credit and how the tip pool works before you take it.
Make sure employees still earn at least minimum wage. If tips plus cash wages fall short, you make up the difference.
Keep the pool to customarily tipped employees. With a tip credit, that includes roles like servers, bartenders, and bussers. If you pay full minimum wage and take no tip credit, you can also include back-of-house staff like cooks and dishwashers.
Credit card processing fees
When customers tip on a card, the processor charges a fee on that tip. Federal rules generally let you deduct that fee from the tip, but only in proportion. So if the processor charges 3% on the full transaction, you can take 3% of the tip amount, not a bigger share. You also can't deduct more than the fee actually costs you, and the deduction can't push anyone below minimum wage. Some states, like California, don't allow the deduction at all.
Recordkeeping
Keeping clear records of tip pools protects you and your team. It’s important to keep track of:
Each employee's tips received, including cash and card tips
How the pool was calculated, and each person's hours or points for the period
Any tip credit taken
Dates and amounts of every payout
Tips must go to employees no later than the regular payday for the period in which they were earned. The FLSA also requires payroll records for at least three years, and the IRS asks you to keep employment tax records for at least four, so plan to keep them for the longer period.
Reporting tips and withholding taxes
Since tips are taxable income, both you and your employees have a part in reporting them.
Employees report tips to you. Employees who receive $20 or more in tips in a month need to report them to you by the 10th of the following month, using a written statement or IRS Form 4070.
You withhold taxes. Tips are subject to federal income tax withholding, Social Security, and Medicare, just like wages. You withhold these from employees' wages and pay the matching employer share of Social Security and Medicare.
You report them on the W-2. Tips show up on each employee's W-2 along with their wages.
Larger food and beverage businesses have extra reporting. If your business normally has more than 10 employees and customers tip, you may need to file IRS Form 8027, which reports tips and gross receipts, and may need to allocate tips if reported tips fall below 8% of gross receipts.
You may qualify for a credit. The FICA tip credit can offset part of the employer's Social Security and Medicare tax on tips, for eligible food and beverage businesses.
A well-run tip pool shows your team that everyone who helps create a great customer experience gets recognized for it. Pick a method that fits how your team works, put it in writing, and check your state's rules before you launch. Keep clear records, and your tip pool can run smoothly for years.
FAQs
Is tip pooling legal?
Yes, tip pooling is legal under the federal Fair Labor Standards Act (FLSA), as long as employers follow certain rules. Employers can't keep any portion of employees' tips, and owners, managers, and supervisors can't take part in the pool. Some states add stricter rules, so check your state labor department's guidance.
Can managers participate in a tip pool?
No. Under federal law, owners, managers, and supervisors can't receive money from a tip pool. Only employees who are eligible under federal and state rules can share in it. Employers also can't keep any part of employees' tips, whether or not they take a tip credit.
What's the best way to split a tip pool?
For most teams, an hours-based split is the simplest and most common choice. It divides the pool by total hours worked, so everyone earns the same rate per hour. If roles carry very different responsibilities, a points-based or percentage-based method may fit better. Whichever you choose, put it in writing.
How are pooled tips taxed?
Pooled tips are taxable income, just like wages. Employers withhold federal income tax, Social Security, and Medicare from employees' pay and report tips on the W-2. Employees who receive $20 or more in tips in a month must report them to their employer.
What are the most common tip pool mistakes employers make?
The most common mistakes are including managers or owners in the pool, skipping the tip credit notice, using an unclear or undocumented policy, paying tips out late, and over-deducting card processing fees. Inconsistent calculations, weak records, and ignoring state law also cause problems. Clear written policies and accurate records help prevent most of them.
