3 Chapter 3- Understanding Labor Cost

Keeping a tight grip on finances is essential for survival in the food and beverage industry. Understanding and controlling labor costs is as important as managing food and beverage costs. Labor costs typically represent 33% of Total Sales. For example, if a restaurant expects to pay $34,300 in labor costs this week, it must make $103,939 in restaurant sales to maintain a 33% labor cost. By effectively managing labor costs, businesses can directly improve their profit margin.  

Labor and payroll costs are related but distinct expenses in the food & beverage industry. Below, you will find the breakdown of the differences:

Payroll Cost: is the most basic cost associated with your workforce.

• Think of payroll cost as the money that goes directly to your employees. This Includes:
  • • Salaries– A fixed (weekly, biweekly, or monthly) payment often expressed as an annual sum.
      • The annual salary is fixed for a period of time, but can change.
    • Wages– A variable expense
      • A variable expense is an expense that changes with the level of sales volume.   More sales typically require more hourly employees on the schedule, and fewer sales typically require fewer hourly employees.
    • Bonuses/ Commissions (if applicable)

Labor Cost:

• Labor cost is a broader term encompassing everything related to employee compensation, including all expenses from payroll costs plus additional costs associated with employing staff. These additional costs can include:
  • • Employer-paid benefits (health insurance, retirement contributions)
    • Payroll taxes (Social Security, Medicare)
    • Recruiting and training expenses
    • Overtime pay
    • Uniform costs
    • Employee meals

Why understand the difference?

While payroll costs are essential for day-to-day cash flow management, understanding the total labor cost gives a more complete picture of how much your workforce truly costs.

• Budgeting: Knowing the total cost of staffing allows for more accurate budgeting and financial planning.

• Cost Analysis: By analyzing labor costs, food & beverage businesses can make data-driven decisions to identify and correct areas for improvement, such as optimizing staffing during slow periods or negotiating better rates for employee benefits.

In short, payroll costs are the direct wages you pay your staff, while labor costs encompass the total monetary impact of your workforce. Understanding both is crucial for effective fiscal management in the food & beverage industry.

The Fair Labor Standards Act (FLSA) is a critical act that employees and employees should be aware of as it sets the baseline for worker protections in the United States. Here is a summary of the FLSA’s critical points for restaurants and similar businesses:

• Coverage: Most restaurants with annual sales exceeding $500,000 must comply with the FLSA. However, many employees will be covered individually by the FLSA.

• Minimum Wage: Covered non-exempt (hourly) employees must be paid at least the federal minimum wage of $7.25 per hour. Many states provide a higher minimum wage above the federal minimum wage. *Remember that non-exempt employees comprise most of the food & beverage industry workforce.

• Overtime: Hourly employees who work more than 40 hours must be paid overtime. The overtime rate is 1.5 times their regular pay for each additional hour.

• Tipped Employees: The federal tipped minimum wage of $2.13/hr or the applicable state tipped minimum wage (whichever is higher)applies only to hours worked in a tipped occupation (usually waiting tables or bartending).
  • Employers can take credit for a portion of tips towards the minimum wage. Still, they must ensure the employee’s total compensation (wages + tips) reaches at least the federal minimum wage ($7.25 per hour as of 2024) or the applicable state minimum wage (whichever is higher)..

• Recordkeeping: Employers must keep detailed records of all employee hours worked, wages, and other relevant information.

• Child Labor Protections: Establishes specific rules about how old a person must be to work, how many hours they can work, and what types of jobs are considered too dangerous for minors. These regulations help ensure young people balance their education with work responsibilities and avoid hazardous conditions.

Salaried Employees:

Salaried employees (exempt employees) receive a predetermined amount of compensation for their work, typically paid weekly, biweekly, or monthly. This amount is usually fixed regardless of their work hours within a reasonable workweek (usually 50). Here is a breakdown of the critical characteristics of a salaried employee:

• Fixed Paycheck: They receive a fixed salary regardless of the hours worked within the work week.

• Overtime: Salaried employees are exempt from overtime pay requirements under the Fair Labor Standards Act (FLSA). This means they do not typically receive extra pay for working more than 40 hours per week. This is an exception, but they usually involve specific job duties and salary levels.

• Job Duties Test: The FLSA has a “duties test” to classify an employee as exempt or non-exempt if an employee qualifies for exempt status and salary treatment. This test considers factors like the level of autonomy, types of tasks performed, and salary level.

The Fair Labor Standards Act (FLSA) is especially relevant to the food and beverage industry in terms of the difference between exempt and non-exempt employees. Exempt employees must be paid overtime pay; non-exempt are typically excluded from receiving overtime pay.

Non-Exempt Employees:

• Typically paid an hourly wage.
• Make up the majority of food & beverage workers – cooks, servers, bussers, etc.
• Not exempt from FLSA overtime regulations.
• They earn overtime pay for any hours over 40 in a workweek.
• May receive benefits, but that is not a deciding factor.

Exempt Employees:

• Usually, managers, executives, or some white-collar or administrative staff.
• Exempt from FLSA overtime regulations.
• They receive a predetermined salary regardless of hours worked.
• FLSA has specific tests to determine if an employee qualifies for exempt status, considering factors like job duties, salary level, and level of autonomy.

In summary:

• Non-exempt employees, who make up most of the food and beverage industry’s workforce, receive overtime pay for working more than 40 hours a week. These employees are typically paid hourly.

• Exempt employees do not receive overtime because they receive a salary and are not eligible for overtime pay. Their exempt status is based on specific job duties and salary levels.

The tipped minimum wage refers to the lower minimum wage paid to certain employees who receive tips in the United States. Here is a breakdown of how it works:

• Who qualifies: Employees who customarily and regularly earn more than $30 monthly in tips are considered tipped employees or the applicable state tipped minimum wage.

• Federal tipped minimum wage: The federal law sets a minimum cash wage of only $2.13 per hour for tipped employees or the applicable state tipped minimum wage. However, there is a catch.
  • The employer must ensure that when combined with tips, the employee makes at least the regular federal minimum wage of $7.25 per hour or the applicable state minimum wage.

• Employer responsibility: If an employee’s tips, added to their cash wages, do not reach $7.25 per hour or the applicable state minimum wage in a workweek, the employer must make the difference.

Here is an example:

• A server earns $2.13 per hour in cash wages and $7.00 per hour in tips.

• Over a 40-hour workweek, the server makes:
  • $85.20 in wages ($2.13/hour * 40 hours)
  • $280.00 in tips ($7.00/hour * 40 hours).
  • The server makes $285.20 ($85.20 + $280.00).

The server meets the minimum wage requirement since $365.20 exceeds the minimum wage requirement of $290.00. The minimum wage requirement is calculated using the minimum wage pay rate times the hours worked. If we multiply the federal minimum wage rate of $7.25 per hour by 40 hours, it equals $365.20 ($7.25 X 40 = $365.20). Since $365.20 exceeds $290.00, the tipped employee does not qualify for a tipped credit.

Understanding the tipped minimum wage is essential for restaurant owners and employees to ensure compliance with labor laws and fair compensation.

Fact Sheet #15: Tipped Employees Under the Fair Labor Standards Act (FLSA)

Important things to remember about tipped credits: 

• Employer Responsibility: If the tips received by the employee after the credit do not reach the federal minimum wage in a workweek, the employer must make up the difference.

• State Variations: Some states may have different tipped minimum wage or credit rules. Employers need to comply with the stricter federal or state regulations.

• Recordkeeping: Employers must maintain records of employee wages, tips received, and any tip credit applied.

The tipped credit can benefit restaurants by reducing labor costs, but ensuring that tipped employees still receive at least the minimum wage is crucial. Servers are not required to claim a specific percentage of sales as their tips. However, they must report all the tips earned for tax purposes. This applies to tips received on credit cards and cash tips.

An indirect percentage related to tip reporting applies to employers, not waitstaff.

• IRS Tip Threshold: The IRS uses an 8% gross sales benchmark to monitor restaurant tip reporting. The 8% is not a requirement for waitstaff but a way for the IRS to identify potential under-reporting.

• What it means: If the total reported tips from all waitstaff in a restaurant falls below 8% of total sales, it raises a red flag for the IRS. They might suspect waitstaff are not reporting all their tips. If this is the case, the employer may be required to allocate additional tip income to the W-2 forms of waitstaff, who reported less than 8% of their tip sales. This ensures the waitstaff meets minimum wage requirements based on a combined total of wages and tips.

• Employers can take tip credit for the tipped portion of the employee’s work, but only if the combined amount (wages + tips) reaches the minimum wage for those hours.

Tipped Credit Example:

• A server earns $2.13 per hour in cash wages and $4.00 per hour in tips.
• Over a 40-hour workweek, the server makes:
  • $85.20 in cash wages ($2.13/hour * 40 hours)
  • $160.00 in tips ($7.00/hour * 40 hours).
  • The server makes $245.20 ($85.20 + $160.00).

The server does not meet the minimum wage requirement of $290.00 ($7.25 X 40 = $290.00) since they earned $245.20. The employer is responsible for making up the difference between what they earned and what they would have earned if they were paid minimum wage.

For this example, the difference is $44.80

• $290.00 – $245.20= $44.80

Additional Considerations: 

• Employers must track all hours worked (tipped and non-tipped) for dual-job employees.

• Minimum wage requirements apply differently to tipped vs non-tipped work.

• Tip credit can only be applied to hours worked in a tipped occupation.

• Some states may have stricter labor laws regarding tipped employees and dual jobs. Always check with your state’s Department of Labor for specific regulations.

• There may be restrictions on how many hours a tipped employee can work in a non-tipped role within the same workweek. This ensures they can still earn tips.

• Supervisors, managers, and owners must ensure proper compensation and compliance with labor laws to avoid lawsuits, fines, and potential negative press.

Employers in the restaurant industry can deduct credit card processing fees from employees’ tips if the credit card company charges them a fee. The FLSA sets the baseline for federal labor laws and allows employers to deduct a portion of a tipped employee’s credit card tip equal to the credit card processing fee associated with that specific tip. The logic behind this is that the employer incurs a cost to process the credit card payment, and since the tip is a result of that sale, they can deduct the associated fee

However, there are some exceptions:

• State Laws: Some states have laws regarding deducting credit card fees from tips, which may supersede the FLSA. Notably, California, Massachusetts, and Maine have specific laws that prevent employers from deducting credit card processing fees from tips.

Key points to remember:

• Waitstaff reports all actual tips earned.
• There is no set percentage waitstaff need to claim based on sales.
• The 8% rule is an IRS benchmark for monitoring restaurant tip reporting, not a waitstaff requirement.

Tipped pools are permitted in the food and beverage industry but with some restrictions.

• Tip pooling is a widespread practice in restaurants. In this practice, all or a portion of the waitstaff, bartenders, and other tipped employees combine their tips and then redistribute them according to a predetermined formula.

• Federal Law: The Fair Labor Standards Act (FLSA) allows tip pooling only among tipped employees. This means employees who customarily and regularly receive tips, like servers, bartenders, and bussers. Kitchen staff, cooks, managers, and other non-tipped employees cannot be included in the tip pool.

• Minimum Wage: Employers can only enforce mandatory tip pooling if all tipped employees are guaranteed to make at least the minimum wage (federal or state minimum, whichever is higher) when their share of the tips is combined with their base cash wage.

• Tip Credit: still applies.

Gratuity (Tip): Belongs to the waitstaff: Tips left by the customer on the bill are considered the sole property of the waitstaff who served them.

Service Charge: Varies: Service charges are added directly to the bill by the restaurant and can be mandatory or optional. The restaurant’s policy determines how the service charge is distributed.

Possible scenarios:

• • Waitstaff: Sometimes, the service charge, like a tip, goes entirely or partially to the waitstaff.
  • Restaurant: The restaurant might keep a portion of the service charge to offset operational costs or share it among all employees, both front-of-house (waitstaff) and back-of-house (cooks).
  • State laws: Some states may have specific regulations regarding how service charges can be used.

In the food and beverage industry, a dual job describes an employee who performs both tipped and non-tipped tasks for the same employer. For example, a server who assists with washing dishes or preparing food holds a dual job.

Tip Credit and Dual Jobs

The tip credit is a federal regulation that permits employers to pay tipped employees a tipped wage as long as their tips and cash wages equal at least the minimum wage. However, this credit only applies to time spent in tipped occupations. Time spent on non-tipped duties, such as bussing tables or washing dishes, must be compensated at the full minimum wage. Some tasks, like refilling condiment bottles or rolling silverware, might be considered directly supporting tip-producing work. I

To comply with FLSA regulations, employers must precisely track employees’ time on tipped and non-tipped tasks. Inaccurate timekeeping can lead to significant penalties, including fines and legal issues.

It’s important to note that many states and cities have wage and hour laws that are more stringent than federal regulations. Employers must adhere to all applicable federal, state, and local laws.

Fact Sheet #14A: Tipped Employees Under the Fair Labor Standards Act (FLSA) and Dual Jobs

FICA is a United States federal payroll tax deducted from most workers’ paychecks and matched by employers. The money collected is used to fund the Social Security program, which provides benefits for retirees for eligible workers when they reach a certain age (typically 62 or older), disabled individuals, and survivors of deceased workers, as well as the Medicare program, which provides health insurance to cover medical expenses for those over 65 and people with disabilities.:

 How FICA Works:

• Both employers and employees contribute to FICA taxes.
  • The employees pay 6.2% of the employee’s wages
  • The employer pays 6.2% of the employee’s wages
  • Both portions are then regularly submitted to the Internal Revenue Service (IRS).

• The employee only pays a Medicare tax of 1.45% on wages exceeding a certain threshold. The employer does not contribute to the additional Medicare tax.

• Wage Base Limit: A maximum wage amount subject to Social Security tax for 2025 is $176,100. Once an employee reaches this threshold, Social Security tax is no longer withheld from their paycheck for the rest of the year. However, Medicare tax applies to all wages earned.

The Federal Unemployment Tax Act (FUTA) is a federal law that establishes a payroll tax program to fund unemployment benefits for eligible workers who lose their jobs through no fault of their own (except for gross misconduct). FUTA is a tax paid solely by employers, not employees.

FUTA is different from State Unemployment Taxes. Many states also fund their unemployment insurance programs with separate state unemployment taxes employers pay. FUTA and state unemployment taxes work together to finance unemployment benefits.

The tax rate is a flat 6.0%, applied to the first $7,000 of wages paid to each employee annually. So, for any employee earning more than $7,000 in a year, the FUTA tax only applies to the first $7,000. The Internal Revenue Service (IRS) collects FUTA taxes. The money collected through FUTA taxes is used to help states fund their unemployment insurance programs. These programs provide temporary financial assistance to unemployed workers while they search for a new job.

Tax Deductions: Employers can deduct a portion of their federal unemployment tax payments from their federal income tax liability.

• Here is an example of how the FUTA tax is calculated:
  • An employee earns $50,000 in wages in a year.
  • The FUTA tax only applies to the first $7,000 of wages.
  • The employer would owe FUTA tax of $7,000 x 6.0% = $420.

In the food and beverage industry, calculating Full-Time Equivalents (FTEs) helps measure labor costs and staffing needs by converting part-time and full-time employees into a standard unit. FTEs help determine the optimal number of employees needed to meet operational demands, ensuring adequate coverage during peak times without overstaffing during slower periods. With FTEs, managers can create efficient work schedules, balancing labor costs with customer service levels. They can also be used to measure employee productivity and identify areas for improvement.  Note: Traditionally, part-time employees do not receive benefits, thus reducing the employer’s benefit cost.

How To Calculate FTE’s

1. Define your standard full-time workweek: Most restaurants consider a full-time workweek of 40 hours.

2. Calculate the total hours worked by all employees:
   • Compile data on the total number of hours all employees(both full-time and part-time) work during a specific period (week, month, year, etc.).

3. Divide total hours by your standard full-time workweek. Here is the formula: Total FTEs = Total hours worked by all employees / Standard full-time workweek

Simple Example:

• Two full-time employees working 40 hours each (2 x 40 hours = 80 hours)
• Three part-time employees working 20 hours each (3 x 20 hours = 60 hours)
• Total employee hours for the week: 80 hours (full-time) + 60 hours (part-time) = 140 hours
• Assuming a standard 40-hour workweek, the total FTEs for the restaurant would be 140 hours / 40 hours/FTE = 3.5 FTEs

A More Complex Example 

• If 480 hours are needed in the kitchen for the week.

Example Two: Total hours added up for one year of work:18,100 hours. Based on a 40-hour workweek

 Interpreting the FTE value: In this example above, the restaurant has 3.5 FTEs, indicating that, on average, they have the equivalent of 3.5 full-time employees working for that week. This helps with budgeting labor costs and planning future staffing needs.

Seasonality: Staffing needs in the food and beverage industry can fluctuate depending on the season. FTE calculations can be done for specific periods to understand these variations.

Employee benefits: FTEs can also be used to estimate costs associated with employee benefits, often based on full-time equivalency. By understanding how FTEs are calculated, food and beverage businesses can make informed decisions about staffing, budgeting, and overall labor costs.

According to ADP, Many employers consider a payroll register indispensable because it helps them keep their payroll records and budgets in order. The register lists payroll information about each employee, such as hours worked, gross pay, deductions, and net pay. It also provides aggregate employee information at a glance, which can be helpful when depositing tax payments, filing tax returns, and performing other basic accounting tasks. A typical payroll register includes the Fair Labor Standards Act (FLSA) record-keeping component.

The following are what a payroll register typically includes:

• The employee’s name, social security number, date of hire, ID number, and job title.
• The start and end of the pay period and the pay date.
• Hours worked, both regular and overtime, the total wages, both regular and overtime, and the total wages (gross pay before deductions).
• Required deductions such as Social Security, Medicare, state and federal taxes.
• Employee/Employer deductions for benefits offered to employees, such as medical insurance, retirement plans, union dues, etc.,
• Employer contributions
• Net Pay