We get asked this a lot. Usually by a restaurant or hotel operator who’s just been told they need a tronc scheme, and who’s now staring at three different terms that all sound like the same thing.
They’re not the same thing. And which bucket a payment falls into decides who pays what tax and National Insurance on it, whether it can go through your tronc, and what you’re legally required to do with it under the Employment (Allocation of Tips) Act 2023. Get the categorisation wrong and you can end up either overpaying NI you didn’t need to, or under-deducting tax HMRC will come looking for later.
Here is an explanation of each type and the implications of each.
Cash tips
This is the simplest one. A customer hands cash straight to a member of staff, or leaves it on the table, and you as the employer never touch it.
If a customer pays a cash tip directly to a worker, and the cash is kept by that worker, such a payment is outside the scope of the Employment (Allocation of Tips) Act 2023. The employer has no responsibility; the employee is responsible for declaring the payment to HMRC and paying tax on the cash tip.
If cash tips are pooled and retained by the employer, along with all other tips, the monies must be paid through the tronc scheme along with all other payments retained by the employer prior to processing through the tronc scheme. Tax is still payable; the NI treatment will depend on how the tronc scheme is set up and whether there is a third-party independent Troncmaster in place
Discretionary service charges
This is where things get more interesting.
A discretionary (or “voluntary”) service charge is an amount added to the bill, but the customer has to be clearly told it’s optional and that they can ask for it to be removed.
If your menus, receipts or staff don’t make that crystal clear, HMRC won’t accept it as discretionary, and that reclassifies it as mandatory, with all the tax and national insurance consequences that come with that, for both the employer and employee.
Assuming it’s genuinely discretionary, it’s treated the same way as a tip for tax purposes. If it’s paid out through a proper tronc, with an independent Troncmaster deciding who gets what, it can go out free of employer and employee National Insurance. That’s a real saving, and it’s the main reason a well-run tronc is worth setting up rather than just splitting the pot informally.
Mandatory service charges
A mandatory service charge is exactly what it sounds like – the customer has no choice but to pay it. It’s added automatically and there’s no getting out of it. This could be called a service charge or cover charge. What it is called isn’t important, the defining factor is whether it is mandatory or not.
Because of that, HMRC treats it as ordinary business income, not a tip. It’s liable to corporation tax like any other revenue you take. If you then choose to pass some or all of it on to staff, that payment is treated as standard wages, subject to the usual Income Tax and National Insurance (Employers’ and Employees’). It cannot get the NI-free treatment a tronc gives to genuine tips and discretionary charges, no matter how you dress it up on the payslip.
More concerning for the employer is that the Employment (Allocation of Tips) Act 2023 states that 100% of tips/service charges must be paid to employees. So that mandatory service charge of say £100, can cost the employer corporation tax of a minimum of £19 and Employers’ NIC of £15.
That totals £34 to the employer’s costs. A very persuasive argument indeed to make mandatory service charges discretionary.
Why this matters for your tronc scheme
A tronc scheme only works its magic (exempt from NIC) on money that customers gave voluntarily. Mandatory service charges don’t qualify; however, they’re distributed. Mixing them into the same pot as your discretionary tips is one of the more common mistakes we see, and it’s the kind of thing that gets flagged when
HMRC comes to check your records.
Since the Employment (Allocation of Tips) Act 2023 came into force, this isn’t just a tax question either. You’re required to have a written tipping policy, keep records of how tips are allocated for at least three years, and make sure the whole process is fair and transparent, whichever of these three buckets the money started in.
Where we come in
This is exactly the kind of complexity we built Tips and Troncs to handle. We act as an independent Troncmaster for hospitality businesses, so the split stays fair, compliant, and properly separated from the employer. We run the tronc scheme alongside your wider payroll so nothing falls through the cracks between the till and the payslip, either working with your internal payroll team or outsourced provider, or we can even manage your payroll too through our sister company Ascend Payroll.
If you’re not sure whether what’s landing in your tronc should be there, or you’re setting up a scheme from scratch, give us a call. We can help clarify any questions you have and talk you through your options.