Avoiding the Four Biggest Traps of Restaurant Payroll

There are many cases of restaurateurs being charged with violations of labor laws, such as the owner of a DC fine-dining restaurant having to pay more than $500,000 following allegations of wage theft, or two Massachusetts eatery owners having to pay around $475,00 in restitution and civil penalties for violations including failing to pay minimum wage, failure to make timely payments to employees, violations of the state’s tips laws, and failure to keep accurate payroll records.

While these cases may be on the more extreme side, restaurant owners have to be careful not to fall into any traps when it comes to payroll, as even accidental violations could still yield big penalties. As an example, a restaurant owner doing payroll by hand may incorrectly record overtime pay and tip records, which subsequently leads to tax errors. Even if these were unintentional, this individual would still be subject to fines and a loss of trust with staff.

This goes to show that restaurant staff pay, which makes up about a third of restaurant operating costs, is one of the most important facets of running a restaurant. When restaurant owners get it wrong, it could lead to fines, broken trust among employees—as with the examples above—and even jail time for more egregious violations. Get it right, and restaurant owners will have happier and more loyal staff, leading to increased retention, an ongoing problem in the industry.

Staffing levels have been on the upswing since the dark days of the pandemic, with the number of jobs at bars and restaurants up nearly 0.7 percent, about 87,000 positions, above their February 2020 employment peak, according to the National Restaurant Association. Quit rates have also fallen since then. It’s great news that so many people are either returning to or entering the restaurant industry workforce, and at higher salaries than in the past. But this development also raises the pressure on each restaurant owner to not mess up payroll, and see their best employees running for the exits and straight for their competitors.

Here are four of the most common traps for restaurant owners to avoid when it comes to payroll: 

1. The misclassification of employees

When hiring new workers, one of the most important decisions for restaurant owners to make is determining whether this individual will be an employee or independent contractor. The former are entitled to benefits such as minimum wage, overtime pay and workers’ compensation insurance. Independent contractors, meanwhile, may not get these benefits in exchange for having more freedom and control over their work, while holding responsibility for their own taxes and insurance.

Restaurant owners often get in trouble for designating a worker that should be a full-time employee as an independent contractor. As a general rule of thumb, if you’re determining when and how long someone works, set their pay rate, provide the equipment for them to do their jobs and directly supervise them, they are likely an employee. Check out how New York State distinguishes between employees and independent contractors here.

2. Incorrectly distributing tips

The rules around tips differ by jurisdiction, with some states, including California, having stronger protections for workers than others. For example, California’s Labor Code Section 351 states, “No employer or agent shall collect, take, or receive any gratuity or a part thereof that is paid, given to, or left for an employee by a patron, or deduct any amount from wages due an employee on account of a gratuity, or require an employee to credit the amount, or any part thereof, of a gratuity against and as a part of the wages due the employee from the employer.”

What does a law such as California’s mean for pooled tips? Restaurants can require the involuntary pooling of tips with other staff members at the restaurant, as long as this money does not go to owners, managers or supervisors.

As each state has its own laws around tips, make sure to read up on the laws of the jurisdiction where your restaurant is located to ensure you’re complying with the law.

3. Not accurately compensating for overtime

Like with tips, each state has its own rules around overtime pay. In general, hourly employees can earn overtime pay—at a rate of at least 1.5 times the employee's regular rate of pay—if they worked more than 40 hours within a week. Be sure to read up on the rules specific to your state.

4. Paying too many fees for your payroll system

Automated payroll systems can help restaurant owners abide by their state’s laws, while automating payroll, overtime and tip payouts. Some systems also handle scheduling. However, this convenience comes with a price. Typically, payroll software providers charge a flat fee per month along with an added fee for each employee. 

One trap to avoid here is failing to remove employees from the system who no longer work for you. As one Reddit post alleges, this mistake cost one restaurant owner an additional $1,400 per month until the error was pointed out.

If you’re currently using payroll software at your restaurant, consider shopping for alternatives in the last months of the year to see if a different provider better suits your needs. If you do switch, doing so at the beginning of a calendar year will make it much simpler from a tax reporting standpoint. 

By steering clear of these traps, restaurant owners will enjoy a much smoother operation, with happier and more loyal employees. This goes a long way toward combating the retention issues that have plagued the industry in recent years.

While the public and elected officials debate ending taxes on tips for restaurant workers, it’s important for restaurant owners to get the basics right when it comes to wages, so they could be prepared for any potential changes coming their way.