Rev. Rul. 59-252

Revenue Ruling 57-397, C.B. 1957-2, 628, holds that where an amount added to a hotel bill for disbursement to waiters and other hotel employees is a service charge, established pursuant to hotel policy or pursuant to the provisions of a contract between the hotel and a union, which the customer is required to pay when utilizing the dining facilities of the hotel, such amount is clearly not a tip or gratuity but constitutes wages for Federal employment tax purposes, and for income tax withholding.

Advice has been requested whether Revenue Ruling 57-397 is applicable in a situation where the hotel operates private dining rooms and ballrooms which are commonly known as `banquet facilities' and are used by organizations and individual customers of the hotel for the purpose of holding private dinners, banquets, dinner dances and similar affairs at which food and beverage are served by the hotel. The organizations or individuals sponsoring such affairs agree to pay, in addition to the regular hotel charges, a certain amount (usually a percentage of the regular charges) which is added to the hotel bill and collected by the hotel for distribution to the banquet waiters and other employees who rendered service at the affair.

To constitute a `tip' in the commonly accepted meaning of the term, it is inherent in the nature thereof that certain fundamental characteristics be present. It must be presented by the customer free from compulsion; he must have the unrestricted right to determine the amount thereof; and such amount should not be the subject of negotiation or dictated by employer policy. Generally, the customer has the right to determine precisely who shall be the recipient of his generosity. The absence of any of these factors creates a serious doubt as to whether the payment is really a tip and indicates that it is in fact a service charge for the use of certain facilities.

In view of the above, it is held that in any case where the negotiations between the hotel and the customer are not restricted to the cost of meals and beverages and the use of the hotel's facilities, but also include or contemplate additional amounts to be paid by the customer to the hotel for distribution to employees of the hotel, then such amounts may not be treated as tips or gratuities but will be considered as service charges which constitute wages for purposes of the Federal Insurance Contributions Act, the Federal Unemployment Tax Act and the Collection of Income Tax at Source on Wages. Accordingly, Revenue Ruling 57-397 is applicable to the instant situation.

The foregoing conclusion is not inconsistent with S.S.T. 301, C.B. 1938-1, 455, which holds, in part, that if a customer of a hotel, instead of directly giving the waiter a tip, writes the amount thereof on the waiter's check and the hotel pays the tip to the waiter and charges it to the account of the customer, the amount of the tip does not constitute `wages' under the Federal Insurance Contributions Act or the Federal Unemployment Tax Act. In contrast with the instant case, the customer was free to determine whether or not he would tip the employee and the amount of his tip. At the time he indicated the amount of his tip on the check he was under no compulsion or legal obligation to do so, by agreement or otherwise, and the hotel in such instance was a mere conduit for transmittal of the customer's tip to the employee. The sum presented to the employee retained all the attributes of a tip and never lost its identity as such.

Pursuant to the authority in section 7805(b) of the Internal Revenue Code of 1954, this ruling will be applied without retroactive effect to the extent that an employer will not be required, as a result thereof, to pay any additional taxes due under the Federal Insurance Contributions Act, the Federal Unemployment Tax Act or under section 3402 of the Internal Revenue Code of 1954 with respect to any tax return period ending prior to January 1, 1959. However, any such taxes which have been paid will not be refunded.

Revenue Ruling 57-397, supra , amplified.