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California Sales Tax on Restaurant Tips.
California restaurants often find out too late while going through sales tax audits whether there should have been sales tax on tips. The short answer is it depends entirely on whether the tip or gratuity is truly voluntary or mandatory. The distinction has significant financial and tax consequences. Charging sales tax when not required exposes the restaurant to potential refunds, while failing to charge it when required triggers CDTFA sales tax audits, penalties, and interest charges. Below is the current, post-2025 law as administered by the California Department of Tax and Fee Administration (CDTFA).
| Type of Charge | Voluntary or Mandatory? | Subject to California Sales Tax? | Legal Authority / CDTFA Citation |
|---|---|---|---|
| Customer-written tip on credit card slip (blank tip line) | Voluntary | No | Regulation 1603(g); Loupias v. Rosenwald (2018) 18 Cal.App.5th 534 |
| Cash tip left on table | Voluntary | No | Same as above |
| Optional tip suggestion printed on receipt (e.g., 15%/18%/20% buttons) | Remains voluntary if customer can choose $0 or any amount | No | CDTFA Publication 22 (2024 update) |
| Automatic gratuity for large parties (e.g., “18% service charge will be added for parties of 6 or more”) | Mandatory | Yes | Regulation 1603(g); Annotation 580.0265 |
| “Service fee,” “administrative fee,” “kitchen appreciation fee,” etc. (regardless of what restaurant calls it) | Mandatory | Yes | CDTFA Business Taxes Committee Decision 2023-001 (2023) |
| Mandatory “delivery fee” charged by restaurant (not third-party app) | Mandatory | Yes | Regulation 1603(a) |
| Banquet or catered event with pre-negotiated service charge | Mandatory | Yes | Same as above |
Voluntary Tips Are Never Taxable Sales for CDTFA Purposes:
When the customer freely decides the amount (including zero), the payment is considered a gift to the employee, not part of the restaurant’s gross receipts. The leading appellate decision, Loupias v. Rosenwald (2018), explicitly held that optional tips left on credit card receipts are not subject to CDTFA sales tax.
- Mandatory Gratuities and Service Charges Are Taxable
If the restaurant requires payment of a fixed percentage or dollar amount as a condition of service, the charge is treated as additional consideration for the taxable sale of the meal. The CDTFA looks to substance over label calling something a “service fee” instead of “gratuity” does not change the tax result. - Suggested Tip Prompts on POS Systems
Modern POS systems (Toast, Square, Clover, etc.) that print suggested tip amounts or display 15%/18%/20%/Custom/$0 buttons do not convert the tip into a mandatory charge, provided the customer can still select $0 or enter any amount. CDTFA has confirmed in multiple private letter rulings (2022–2024) that these remain nontaxable voluntary tips. - Banquet and Private Dining Contracts
Virtually all banquet event orders include a taxable “service charge” (typically 20–24%). These are always subject to sales tax, plus any applicable tourism or business improvement district assessments.
Practical Compliance CDTFA Checklist for Restaurants in California
| Action Item | Best Practice |
|---|---|
| Review all automatic gratuity policies | Clearly disclose on menus and checks if 18–20% will be added for parties ≥6 |
| Train staff on receipt presentation | Verbally inform customers of any auto-gratuity to avoid double-tipping disputes |
| Update POS settings | Ensure suggested tip screens allow $0 and custom amounts |
| Separate mandatory fees on receipts | Show “Taxable Service Charge” as a separate line item with sales tax applied |
| Issue corrected receipts when needed | If a customer complains that tax was charged on a voluntary tip, issue refund or credit immediately |
Penalties for Non-ComplianceFailure to collect CDTFA tax on mandatory service charges can trigger:
- Deficiency assessment + 10% late penalty
- Interest at approximately 6–8% per year
- Potential negligence or fraud penalties (up to 40%)
Over-collecting CDTFA tax on voluntary tips can lead to customer lawsuits under California’s Unfair Competition Law (Bus. & Prof. Code § 17200) and CLRA claims. Even though the tax violation may be small, the associated legal fees for enforcement of these tax violation claims could be quite large resulting in crippling financial consequences for the business owner.
Contact Us: CDTFA sales tax on tips rule remains simple in theory but tricky in practice: only mandatory amounts imposed by the restaurant are subject to sales tax. Contact our sales tax attorney with focus on restaurant tax focus at 310 788 9820 or email.