It’s always great when your Client is good enough to pay a tip on top of the price of the service they’ve just received!
In this Article we look at both the income tax and national insurance aspects of tips – for both the Salon/Barbershop Owner and their employees.
It’s not as easy as you’d think
HMRC consider that an employee should pay tax on any tips they receive. Easy so far.
However there are a number of ways in which a tip could be handled before ending up in the hands of the Stylist – and it is this route which determines whether the tip is subject to National Insurance Contributions (NICs), whether they are subject to Income Tax (PAYE) and whether it is the Salon or Barbershop Owner who needs to put it through the PAYE system (or whether the employee needs to pay any tax due themselves).
Understanding the requirements is essential, since getting it wrong can be costly for the Owner if they don’t should HMRC come a calling.
So along with a handy flow diagram at the end, we examine below the 3 main routes a tip can take before reaching the Stylist – and as such what tax becomes due (and who needs to pay it to HMRC):
Route 1: Tip given directly to the Stylist
The most straightforward case is where a Client tips the Stylist directly. In this case the Owner is not involved in the process and it is the Stylist who is responsible for telling HMRC about the amount of tips received and paying the associated tax. If this is how the salon or barbershop is set up, the Owner should make it clear to the Stylist that such tips are outside PAYE, that it is their responsibility to pay any taxes due and advise them to contact HMRC (as they may collect that tax by adjusting the employee’s tax code).
There is no NIC payable on the tip in this route since the tip is not ‘touched’ by the Owner at any point.
In summary – the Stylist is responsible for paying any tax (and there is no NIC).
Route 2: Tip given to the employer and subsequently distributed to the stylist
Where a Client adds a tip to their bill and then pays (say) by card, the tip has effectively been given to the Owner in the first instance (who may then pass it on to the Stylist or pool all such payments to share out between staff members). Another example of this route is where the Owner requires that all cash tips are centrally pooled for distribution on a basis decided by him/her.
As HMRC see it in this route, the tip is distributed to the Stylist by the Owner and so forms part of their ‘earnings’ and as such the Owner is responsible for putting them through the existing PAYE system (along with the Stylist’s salary & commission).
In this route, NICs will also be due, so both the Stylist and the Owner are worse off.
In summary – the Owner is responsible for paying the tax and NIC.
Route 3: Tips under a tronc system
Not as common as Routes 1 and 2, a system under which tips are pooled and distributed to staff by someone who is not the Owner is known as a ‘tronc’ system. The person responsible for administering the system is known as a ‘troncmaster’ (usually one of the employees – often the senior Stylist or Salon Manager).
As in Route 2, tips distributed to each Stylist by the troncmaster are treated as earnings but instead of the Owner, it is the troncmaster who is responsible for operating a PAYE system on the tips – totally independently of any PAYE system operated by the Owner.
For NICs, it depends whether the tronc has its own rules for allocating the pooled tips (usually by agreement of the Stylists) or whether the Owner decides.
Where it has its own rules, no NICs are due because although the tip may have been previously paid to the Owner, he/she cannot be said to be involved with who gets what.
Where the Owner has a say in how the tips from the tronc are allocated then NICs will be due.
In summary – tax is paid by the tronc, with NICs only due if the Owner has any say in how the pooled tips are distributed.
Tips and the National Minimum Wage
Importantly, tips do not count towards the employee’s total wages and so cannot be used to ‘bolster’ them when ensuring minimum or living wage rules are met.
Tips, income and VAT
Tips are not recorded as income but as amounts owed on the balance sheet since they are not the income of the business (but rather it has collected them on behalf of its employees).
Since tips are voluntary they remain outside the scope of VAT.
Feel free to contact us should you want to discuss anything!
HMRC also have Booklet E24 which is also useful and can be found here:
The various routes are described below and summarised in the attached flowchart.