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New Rules From the Department of Labor

On December 5, 2017, the Department of Labor issued a Notice of Proposed Rulemaking with request for comment relating to a contemplated change in the regulations implementing the Fair Labor Standards Act (“FLSA”). The change under consideration would eliminate certain tip-pooling restrictions for employers who pay their employees at least the Federal minimum wage and do not claim credit for tips toward the minimum wage owed to tip-earning employees. The comment period was initially opened through January 5, 2018, but was extended to February 5, 2018, at the request of labor groups.

A 1966 amendment to the FLSA, codified at 29 USC §203(m), permits employers to credit tips earned by employees toward a portion of the statutory minimum wage.  In 1974, Congress amended the statute to include a requirement that, in order for an employer to claim the credit, all tips earned by employees must be retained by the employee except to the extent that tips are pooled among employees who regularly and customarily earn tips.  The regulation under review, implemented in 2011, prohibits employers from using employee tips for any purpose other than a tip pool among regularly and customarily tipped employees, without regard to whether the employer claims the §203(m) credit.  Thus, pursuant to the 2011 regulation, employers who do not claim the §203(m) credit are nonetheless prohibited from pooling tips among tip-earning and non-tip-earning employees.  According to the Department, the proposed amendment would not affect employers who use the §203(m) credit to pay tip-earning employees a direct cash wage less than the minimum wage.

Since its implementation, the 2011 regulation has been subject to dispute, including substantial litigation.  In asserting the procedural grounds for the proposed revision, the Department argues that the FLSA does not expressly delegate authority to regulate tip-sharing arrangements involving employers who do not claim the credit.  The statute places express requirements upon employers who claim the §203(m) credit but is silent as to any such requirements for other employers.  Under this reasoning, the Labor Department argues that the rule should be rescinded because it was not a proper exercise of rule-making authority when enacted and therefore amounts to “regulatory overreach.”

The Department also asserts that public policy considerations favor removal of tip-pooling restrictions on employers who do not claim the §203(m) credit.  According to the Department, the proposed roll-back allows tip-sharing among a larger number of employees, thereby allowing low-wage, “back of the house” employees – such as dishwashers, cooks, and bus boys – to share in tips.   Increased participation in tip-sharing would, in turn, promote greater pay parity among, for example, wait staff and kitchen workers.  The Notice additionally references recent decreases in the percentage of employers claiming the §203(m) credit as grounds for rescission.

Along with the Department itself, trade groups such as the National Restaurant Association are advocating in favor of the roll-back.   Proponents cite increased contractual freedom between employers and employees as weighing in favor of the amendment.  If adopted, tip-pooling arrangements would be governed by employment contracts and state law, provided the employer pays the employee at least minimum wage.

Opponents of the amendment, most notably including labor groups and their Congressional allies, favor leaving the current rule in place.  They argue that the revised rule would result in employers unfairly “pocketing” employee-earned tips, rather than sharing the tips with non-tipped employees.  Opponents also note that the amendment would have an adverse impact on women, who make up a disproportionate percentage of tip-earning workers.

The proposed rule-change is in large part a response to recent litigation throughout the country challenging tip retention practices of employers who pay at least the minimum wage and therefore do not use the §203(m) credit.  The 10th Circuit held last year in Marlow v. New Food Guy, Inc., 861 F.3d 1157 (2017), that the regulation, in its current form, is invalid to the extent it seeks to regulate pooling of tips between tip-earning and non-tip-earning employees when the employer in question does not claim the §203(m) credit.  The Marlow decision states that, in the FLSA, Congress did not address tip-pooling practices of employers who do not claim the credit and, consequently, did not delegate regulatory authority in that area to the Department.

The 9th Circuit, on the other hand, held a year earlier in ORLA v. Perez, 816 F.3d 1080 (9th Cir. 2016), that – although the FLSA does not specifically address tip-pooling practices of employers paying at least minimum wage – the Department was granted broad rule-making authority to implement the statute and properly exercised that authority in implementing the 2011 regulation.  Finding that the Department had the authority to “fill the gap” left in the statute, the Perez Court reversed the district court and distinguished an earlier 9th Circuit decision under which §203(m) was interpreted so as to not restrict the tip pooling practices of employers who do not claim the §203(m) credit.  A petition for certiorari in Perez is currently pending before the U.S. Supreme Court.  Notably, the position taken by the Department in the brief submitted to the Ninth Circuit in Perez stands in direct opposition to the position in takes in support of the proposed amendment.

In its Notice, the Labor Department admits that it is “seriously concerned that it incorrectly construed the statute in promulgating the tip credit regulations that apply to … employers that pay the full Federal minimum wage to their tipped employees.” In light of that stated concern, the amendment can be viewed as a preemptive effort to avoid a Supreme Court rebuke of the Department’s rule-making authority should certiorari be granted in Perez.  Opponents, though, maintain that the true purpose of the roll-back is to favor the economic interests of business owners over workers.

Although the Department contends that the rule change would result in a net employment gain in the affected industries, it acknowledges that market forces, such as employee resistance and turnover, may discourage changes to employers’ current policies relating to use of tips.  According to the Department, thirty percent of employees who would otherwise be affected by the amended rule work in states in which employers are already forbidden from appropriating tips earned by employees, and it is possible that more states will adopt similar policies in response to the amendment.

Whether through a high court decision in Perez or through the proposed revision of the present regulation, the recent inconsistent application of tip-pooling rules is likely to be addressed in the near future.  Until that time, the Department has announced that it is electing not to enforce the rule as it currently stands to the extent it regulates tip-pooling activities of employers that do not claim the §203(m) credit and pay employees at least minimum wage.

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