The skies in Raleigh, NC were blue on March 1st, with spring-like temperatures of nearly 70 degrees that tempted residents and tourists to stroll the streets of the city’s revitalized downtown. Diners and drinkers crowded the Raleigh Times Bar, with its throwback décor of old newspaper clippings and photos; contemporary selection of draft, craft and Belgian brews; and creative bar snacks (bacon-wrapped goat cheese stuffed figs).
Brennon Whitley, 38, manned the bar, took orders at the indoor tables and even filled in service gaps at the most-in-demand outdoor seating. But not everyone rewarded his hustle and cheerfully polite demeanor. One couple ran up an $80 tab and left just a $2 tip. Naturally, he didn’t object. But later, he speculated that the folks who stiffed him may not have known his base pay is the same as when he started working at restaurants 20 years ago —$2.13 an hour.
Or maybe, they were among those Americans who are fed up with the growing expectation that they should tip generously for everything–from take out orders (and even groceries) to bad service to the good service provided by waiters like Whitley who have traditionally survived on paltry hourly pay and generous tips.
That $2.13 an hour Whitley makes was set by the federal Fair Labor Standards Act in 1938. Employers, in theory, must make up the difference if a worker’s tips don’t take him to the regular federal minimum wage of $7.25 an hour (which hasn’t increased since 2009, even as the cost of living has risen 42%). The $2.13/$7.25 federal minimum for tipped workers is still used by 13 states, including North Carolina. Others have enacted their own higher minimums, but only seven states currently require that all tipped employees get the same hourly minimum upfront from their employers as other workers. The net result: the Bureau of Labor Statistics estimates the nation’s two million waiters and waitresses had median earnings in 2021 of $12.50 an hour, with only 10% pulling in more than $46,000 a year.
During the early days of the pandemic, awareness of tough working conditions and low pay for service workers prompted Americans to leave higher tips—a trend that surveys suggest has been somewhat offset by inflation-stretched customers now scaling back on the percent they leave, if not (given higher prices) the total dollars. Whitley, for his part, says he’s typically getting around 20% now, about the same as before Covid-19, but lower than earlier in the pandemic.
A more lasting and significant change: a broader group of service workers are now expecting tips as cash registers and easily ignored tip jars have been replaced by point of sale touch screens (it could be an iPad, a phone or a dedicated terminal) that conspicuously ask customers if they want to tip and present a menu of percentages. Toast, a digital POS platform serving restaurants, reports that in the last quarter of 2022, a tip was included on 48% of credit card or digital payment transactions at fast food restaurants on its platform—up from the 37% of payments at such establishments that included a tip at the start of 2020.
As those numbers suggest, not all consumers are onboard with what’s known as “tip creep.” Indeed, when Starbucks began rolling out a new screen feature last year that asks those paying by credit card if they want to tip $1, $2 or $5 or leave no tip, and requires an answer before a transaction goes through, the coffee chain was roasted on TikTok and other social media. Notably, while Starbucks workers may be underpaid, they are not paid a subminimum wage the way many waiters at full service restaurants are; Starbucks raised its minimum pay to $15 an hour last summer.)
It’s not just Starbucks. “We’re being asked to tip more, we’re being asked to tip more aggressively, and it’s now the default,’’ says Michael von Massow, who studies the economics of restaurant and retail food demand as an associate professor at the University of Guelph in Canada. He notes that the digital asks are no longer limited to traditional personal service industries—they now include everything from grocery store screens asking for gratuities at checkout to mechanics using payment programs that suggest tips on top of already substantial repair bills.
Digital prompts are not only expanding what services consumers tip for, but also how much. In a new tipping culture survey of 2000 Americans for Forbes Advisor, 73% said they tip at least 11% more when they tip digitally, with the digital tip bonus averaging nearly 15%.
But a backlash is building, with consumers increasingly opting out, von Massow cautions. Before the pandemic, a study asked Canadians, “Do you like tipping?” Under half—42%—answered that they could do without it. In a more recent survey, 67% said that they would prefer to move away from tipping.
“Psychological research on nudging suggests nudging works,” explains von Massow. “But if we feel like we’re being nudged too hard, we start to push back.”
One intriguing study that illustrates that point comes from Kwabena Donkor, an assistant professor of marketing at the Stanford Graduate School of Business, who grew up in Ghana and drove a New York City yellow cab for four years while earning his economics degree from Hunter College.
For his PhD thesis at University of California/Berkeley, and in a subsequent paper, Donkor analyzed the trade-off between personal choice (choosing your own tip) and norm conformity (choosing from a menu of tipping options) by sampling a billion Big Apple taxi rides taken between 2010 and 2018. The tip menus in this case are combination screens and card swipe machines you use at the end of the ride when paying with a credit or debit card. Passengers can choose one of the menu options, manually key in a different amount (including no tip) or provide a separate cash tip. More than 97% of riders who swipe their cards for the ride add a tip on the screen. (Yep, that’s norm conformity. Uber riders, who tip from the privacy of their own phones and after exiting a car, are far less likely to tip. Significantly, until mid-2017, Uber didn’t have a tipping option on its app, so the norm there is different.)
In 2011 one of the two providers of the New York city cab screens raised the default tips shown from 15%–20%–25% to 20%–25%–30%. After the percentages went up, Donkor found, the share of people opting for a default declined from 58% to 47%, but the average tip climbed from 17.45% to 18.84%. In other words, while more riders made a personal choice, thanks to all those other norm followers taking their cues from the screen, the average driver’s take still rose. When the lowest default was raised from 15% to 20%, the share of passengers who tipped exactly 15% dropped by 87% (from 30% to 4%). Just as dramatically, when a top default of 30% was added to the screen, the share of riders opting to be that generous jumped 800% (from 0.5% to 4%).
Not surprisingly, given that default tips are fixed percentages of the fare, Donkor also found that the higher the fare the more likely a rider was to pick their own (lower) tip—in other words, to heck with the norms and convenience of the default, this is getting too expensive.
That should be good news for all those workers at coffee and sandwich shops whose POS screens now suggest relatively high tips (percentage-wise) on smallish tabs. But Donkor’s research also raises a caution: at some level of suggested tip (40% in his study), riders rebelled en masse and abandoned the default.
Of course, Donkor’s isn’t the only study on tipping norms. The IRS has, for years, compiled tipping data to determine what income should look like from tipped employees depending on a variety of factors, including not only industry and geography, but also the days of week and hours worked.
Tips are subject to income and payroll (Social Security and Medicare) taxes. Employees are supposed to report all their tips to their employer, who can then withhold the proper tax and pay the employer’s share of payroll taxes. But compliance has always been low, particularly since so many tips have traditionally been paid in cash. In its Tax Gap studies, the IRS estimates that it gets 99% of what its due on regular wages, where taxes are withheld and reported to both the IRS and the taxpayer on a W-2, but just 55% of what it’s owed on tips (the same percentage it figures it collects from self-employed sole proprietors).
The IRS can, relying on those industry norms, typically match a worker’s anticipated tip income with reported income. If the IRS audits a tipped worker and finds they’ve underreported, it can demand the employee pay all sorts of back taxes and that the employer pony up its share of uncollected payroll taxes too. But with the IRS auditing fewer than 700,000 of the 150 million individual tax returns filed each year, that’s neither practical nor politically popular. (Even the Biden Administration, which has won billions extra for enforcement, says none of that money will be used to step up audits on those earning less than $400,000.)
The alternative to auditing every waiter? Over the last three decades, the IRS has launched a series of programs that encourage employers to voluntarily calculate, report and collect taxes on a certain level of tips in exchange for protection from tip audits for themselves and their tipped employees. Except that’s not working great either. A 2018 study by the Treasury Inspector General for Tax Administration estimated that 30% of employers with tip agreements in place were underreporting. Tens of billions in annual taxes are at stake; TIGTA notes that the IRS itself estimated in 2006 that 10% of the individual tax gap comes from unreported tips.
Now the IRS wants to get in on the point-of-sale tipping action too. It hopes to modernize its data collection, and more effectively shift the burden for reporting tips to employers by using POS, time and attendance systems, and electronic payments data collected by employers. A new Service Industry Tip Compliance Agreement (SITCA) program the IRS proposed last month would replace three older voluntary employer programs. To participate, employers would have to use a POS system to record all sales subject to tipping, and that system would have to accept the same forms of electronic payment for tips as it does for sales. The employer would then calculate (and report to the IRS on a W-2) each worker’s minimum tips by including all electronically paid tips and an estimate of cash tips on other sales. (The IRS concedes cash tips should be estimated at a lower average rate and that a “stiffing” discount must be applied, for those who don’t tip at all.)
The new program would not require any tax reporting commitment from individual employees—in fact, they would not even have to sign participation agreements or otherwise agree to be monitored for compliance by their employers, as they must under the current programs being replaced. And employees wouldn’t get protection from audits—legally they’d be responsible for reporting all tips, not just those included on their W-2s.
But tipped workers who now report all (or almost all) their tips wouldn’t have to worry about being hit with a big bill at tax time–instead, if their employers participated in the new program, the taxes on their calculated minimum tips would be withheld during the year. Plus, the IRS would have even less reason to go after those who shave a little if the minimums reported on those W-2s were closer to the truth.
That truth was easy to keep hidden in the shadows when tipping relied mostly on cash. Now, one of the very things helping drive the push for more tips—technology, and the digital trail it leaves—is also what the IRS hopes to use to capture its share.
