Recent New York Decision Changes Definition of “Service Charge”

August 2008Alerts Hospitality Practice Alert

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On February 14, 2008, on what is quickly becoming known as the “Valentine's Day Massacre” for the hospitality industry, the New York Court of Appeals handed down a surprising decision in Samiento v. World Yacht, Inc., 10 N.Y. 3d 70 (Feb. 14, 2008). The court found that pursuant to New York Labor Law section 196-d, service charges may now be considered gratuities and cannot be retained by the employer - unless certain requirements are met. The implications for the industry cannot be underestimated.

In the six months since World Yacht, the industry already has seen a dramatic increase in the number of class action lawsuits filed to recover that portion of the service charge that may not have been given to service employees. With a six-year statute of limitations in New York, the potential damages and risks to employers are draconian. Damages include 25 percent liquidated damages, fines, and attorneys fees. In addition, if an employer incorrectly took the tip credit when using the service charge, that also may be recoverable in these lawsuits.

Without getting caught up in the legal minutiae of the decision, the court was most concerned with what the customer understood the mandatory charge or fee to represent. Did it purport to be a gratuity? In applying a “reasonable customer” standard, the court held that lower courts must examine whether a reasonable customer believes that the service charge is a gratuity, and if so, the entire charge must be distributed to the service team.

In order to operate within the confines of the New York Labor Law and the World Yacht decision,“an employer needs to re-examine banquet and/or private events” contracts. If a restaurant wants to retain any portion of the service charge, the customer and the employees need to be made aware of this in advance. Contracts should specifically delineate the exact amount of the charge going to the employees and the amount being retained by the restaurant. In advance of working an event, employees should be informed about how they will be compensated and whether a service charge will be paid to them or if gratuities are available.

Alternatively, an employer can separate a mandatory fee (e.g., operations or administrative fee) as a line-item amount as well as a separate gratuity line. The gratuity line should indicate to the customer that it is discretionary. In this case, the employer can still take the tip credit. Or, a mandatory fee can be charged as one line item, with a separate service charge (or “labor charge”) going directly to the service employees. Again, the contract should clearly indicate what the fees are and that neither is a gratuity. In this example, the employer could not take the tip credit.

World Yacht highlights that the court is concerned about consumer fraud as well as employee welfare. Any food service provider who has historically used the service charge should consider auditing its potential liability in light of this decision. Going forward, all banquet and special events' contracts should be reviewed with labor counsel to ensure compliance with New York Labor Law section 196-d and the World Yacht decision. Below is a brief summary of steps to take towards compliance.


  • Omit the Words “Service Charge”: Do not include the phrase “service charge” in customer contracts or invoices as it may be suggestive to the customer that the entire amount will be given to the service staff. Rather, use a new term: operations charge (or fee), management fee, administrative fee, set-up fee, catering fee, or banquet fee.
  • Preserve the Tip Credit: If a “service charge” is used, the tip credit may not be taken.
  • Knowledge is Power: Make it clear on the invoice or contract that this charge is not a tip or gratuity. Let the customer know where the fees are going (i.e. to offset “operation and administrative expenses associated with your event”).
  • Give the Customer A Choice: Include a line on the check or invoice for the customer to add an optional gratuity, further distinguishing charges from gratuities.
  • Inform Your Employees: Provide your employees with clear written notice of how they will be paid for banquets or private events. Let them know the rate of pay, particularly if it is going to vary. Post it on a bulletin board, use e-mail, and advise your employees whether gratuities will be an option.

For more information about this topic, contact Carolyn Richmond at 212.878.7983 or [email protected].