Itemized Gratuities Require the Addition of HST

written on behalf of Feigenbaum Law

Owning a business requires attention to many small details. For some people, these details can be easily mismanaged, especially regarding tax. One of the most important reasons to work with an experienced corporate tax planning and compliance lawyer is to help ensure that a minor oversight or mistake in managing tax doesn’t turn into litigation. The Tax Court of Canada’s recent decision in 1410109 Ontario Ltd. v. The King demonstrated how a misunderstanding of HST and its application to itemized gratuities can lead to tax liabilities.

Banquet hall charged customers HST and gratuity on all items

The appellant in 1410109 Ontario Ltd. is a business that owns a banquet hall outside of Toronto. The business hosts weddings, seasonal events, and other life celebrations. During the original trial, the business owner described their booking process. A patron would meet with the manager, sign a contract, and make arrangements to provide a deposit. The contract would invoice the food or beverage for the event and stated that “[a]ll pricing is Subject to 13% HST and 15% gratuities.”

When a customer receives their invoice, it includes each item charged, such as the booking fee, bar charges, and food charges. Both HST and the gratuity would then be calculated based on the grand subtotal, which means that HST was not added on top of the 15% charged for gratuity. 

Business believed HST not applicable to mandatory gratuity

The business stated that while it would occasionally decrease the price on specific items if there were complaints from customers, it never adjusted the 15% added for gratuity. The owner testified that he viewed the gratuity as gifts from the patrons to the manager, chef, and serving staff. The gratuity was divided, with 50% of the gratuity going to the serving staff and the remainder split between the chef and manager.

The government’s position was that HST should have been charged on the 15% gratuity because it was a mandatory charge and was never negotiated or varied. The business did not believe it was required to charge HST on gratuities, arguing that gratuities do not create a service or property necessary for a taxable supply. Instead, the business stated they are transfers of property from patrons to employees.

Excise Tax Act states when gratuities should be taxed

The Tax Court began its analysis by turning to the Excise Tax Act, which states that HST is payable on all supplies of taxable services with some exceptions. “Service” is defined under the Act as meaning anything other than:

• property;
• money; and
• anything that is supplied to an employer by a person who is or agrees to become an employee of the employer in the course of or in relation to the office or employment of that person.

The Court noted that the gratuity is included in all of the banquet hall’s agreements and is not negotiated or optional. As a result, it is different from how gratuities are usually calculated, at least from a customer’s perspective. 

Lack of case precedent on whether HST applies to mandatory gratuity 

The Court acknowledged that there are few case precedents with similar circumstances to those of the banquet hall. However, it referenced a 1994 Canada Revenue Agency memo titled “G-24 – Information for Providers of Accommodations and Meeting Facilities”, which stated:

“Gratuities which customers voluntarily give to employees are not taxable. However, if you include a gratuity as a service charge in an invoice to a customer, whether mandatory or a suggested amount, it is taxable at 7%.”

However, the Court found that there didn’t seem to be any legal authority to support this direction.

Obligatory gratuity cannot be viewed as a gift and must be taxable

The Court then examined how the gratuity is set out in the banquet hall’s contracts. It found that the gratuity forms part of the total amount owed, and both the business and the customer sign the contracts. The Court concluded that an obligatory part of a contract cannot be viewed as a gift but instead as consideration, adding that “by definition, a gift cannot be something that a person is required to transfer to another person.”

The business argued that the gratuity should not be taxed as the company doesn’t own the money. Instead, the business stated, it acts as a “middleman” between the customer and employees. However, the Court determined that this was not enough to avoid adding tax.

Contact the Knowledgable Team at Feigenbaum Consulting in Toronto for Comprehensive Tax Advice

The experienced team at Feigenbaum Consulting, led by Mark Feigenbaum, provides multi-disciplinary, cross-border legal and tax solutions in both personal and corporate matters. The firm helps clients reduce their overall tax burden and avoid the pitfalls that result from improper tax planning. Located just north of Toronto in Thornhill, Feigenbaum Consulting serves clients in Canada, the U.S., and worldwide. Call 905-695-1269 (or toll-free at 877-275-4792) or reach out online to schedule a consultation.