Here’s what you need to know about the potential surcharge ban in the restaurant industry

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“The price a Californian sees should be the price they pay,” states the California attorney general’s guidance on Senate Bill 478, often colloquially referred to as the “junk fee ban,” which is set to take effect July 1.

The bill aims to help with price transparency for consumers, banning a business from charging any additional fees that aren’t sales tax or shipping. For restaurants, these additional fees include surcharges like “healthy living” and service fees. 

“Every consumer deserves honest, up-front pricing,” said state Sen. Bill Dodd, D-Napa, co-author of the bill, in a press release.

And while SB 478 undoubtedly benefits consumers, Peninsula restaurant owners who are currently implementing surcharges as a way to combat inflation and high labor costs say it will lead to higher prices on menus and make it harder to run their businesses amid continuous turmoil in the restaurant industry. 

“I firmly believe that these kinds of policies don’t help us, they don’t help the small businesses, and whether or not the intention is good, I just feel like there’s a lot of damage being done,” said Ted Kim, owner of Steins Beer Garden in Mountain View and founder of the annual Mountain View Oktoberfest. “Sometimes I feel like they’re trying to treat a cut on the hand of a terminally ill cancer patient.”

What is SB 478?

SB 478, also known as the “Honest Pricing Law” or “Hidden Fees Statute,” makes it “illegal for businesses to advertise or list a price for a good or service that does not include all required fees or charges other than certain government taxes and shipping costs,” said the California attorney general’s guidance on the bill. Notably, the FAQ states “Fees for optional services or features do not need to be included in the advertised price” but “optional services or features” are not defined. 

Gov. Gavin Newsom signed SB 478 into law in October 2023. The California Chamber of Commerce, the Family Business Association of California and the California Restaurant Association are among the groups opposed to the law, and the California Restaurant Association sent a letter last month requesting changes to California Attorney General Rob Bonta’s FAQ, saying it was a “misinterpretation of the legislature’s intent and the law.” 

On June 6, Dodd and state Sen. Scott Wiener co-wrote an amendment to SB 478 that, if passed, would allow California restaurants to continue charging automatic fees as long as they disclose those fees “clearly and conspicuously” on menus or “other display.” Failure to do so allows a consumer to recover or obtain actual damages of at least $1,000. That amendment, SB 1524, passed the Assembly chamber on Monday and now heads to a concurrence vote in the Senate before making its way to Newsom’s desk.

While the California Restaurant Association supports SB 1524, there are a slew of unintended consequences that could result from its passage, said Joseph Dworak, former attorney and adjunct professor at San Jose State University’s College of Business and Department of Hospitality, Tourism, & Event Management. 

With no further clarification on what displaying additional fees “clearly and conspicuously” on menus or “other display” actually means, it opens up the floodgates to increased litigation because of the enforcement statute, Dworak said. And while large corporate restaurants likely have lawyers to help them comply with the statute, small business owners may not be fully aware of the technicalities of the new law, he said. Similar litigation to that of ADA serial plaintiff Scott Johnson, who filed thousands of disability lawsuits, sometimes forcing restaurants into permanent closure, could ensue. 

“If the result of this is increased litigation, that’s not going to bode well for the industry,” Dworak said. 

And despite Bonta releasing an FAQ for the surcharge ban, he doesn’t define “fees for optional services or features,” which are exempt from the law. 

“What becomes optional?” Dworak said. “The restaurant you’re at, you use the restroom to wash your hands. Well, maybe that’s an additional fee. Maybe you have a certain food requirement the way you want to have something prepared because you have an allergy or whatever. Maybe that’s an additional fee.”

How did surcharges become so prevalent?

Restaurant surcharges began to increase in commonality in 2008, when the San Francisco Health Care Security Ordinance, which required businesses with more than 20 employees to set aside money for their workers’ health care, went into effect. In 2011, the city amended the ordinance to ensure money from fees like “health surcharge” or “healthy S.F. surcharge” was actually being used for employees’ health care. After 2013, when the City Attorney’s Office found some restaurants violated the provision, most restaurants changed the fee’s name to more generic “SF mandates,” according to the San Francisco Chronicle. 

As the practice became more widespread, it began to trickle out of the city and down the Peninsula, particularly booming during the pandemic to help with rising costs. Despite its prevalence, there is no labor code that governs service charges, said Servando Sandoval, labor attorney at Spencer Fane LLP, which helps with labor matters at Flea Street in Menlo Park. 

“When it comes to service charges, a restaurant operator-owner, if they wanted to, could charge a service charge and keep 100% of that,” Sandoval said. “But at the same time, there’s been lawsuits that have been filed. … At least one Court of Appeals has ruled that those fees belong to the employees and not to the restaurant owner.”

Why are restaurants using surcharges?

Kim implemented a 4% surcharge a few years ago, bumping it up to 5% at the beginning of this year due to the increase in minimum wage.

“We’ve been open for over 11 years now, and I still have people here from the very beginning,” Kim said. “We want to be able to help support their livelihoods, but it’s so hard. … We opened in 2013, and back then minimum wage was $9. And now it’s $18.75. I mean, it’s more than 100% plus, so there’s only so much we can do.

“When you increase wages, I think the other side of the coin is a lot of these businesses have to raise the prices to accommodate for that wage increase well,” he added. “Then what do you have? You have this unending cycle of just inflation and businesses not able to keep up with their expenses.”

And it’s not just the cost of labor that’s causing restaurants’ margins to shrink – it’s the cost of goods too. 

“I feel like just at a base level, everything’s gone up maybe 15%-20%,” Kim said. “As much as I’d like to increase menu prices 15% to accommodate that, I don’t want to do that as well. That just doesn’t make a lot of sense.”

For Scott Nishiyama, owner of Ethel’s Fancy in Palo Alto, staff retention has been a challenge since opening in 2022. In an attempt to offer more competitive wages, Nishiyama bumped up his 5% surcharge to 6% earlier this year.

“Having that surcharge helps us retain people that we want to keep on our payroll,” he said.

While Nishiyama considered increasing menu prices, he felt that explaining a surcharge to consumers is easier than explaining an increase in dish prices. 

“The surcharge by no means is something that we take as added to our profit,” Nishiyama said. “Restaurants have razor-thin margins, and some months we don’t make money, and some days we barely make any money. We’re not doing this to take money from our guests and put it into our pockets. It’s really just to keep things running and keep the lights on.” 

Two years ago, Alice’s Restaurant in Woodside implemented a 3% surcharge, slowly increasing it to 6% before deciding to fold the fee into menu prices – a decision that ironically went into effect just after a photo of a sign notifying patrons of the 6% surcharge went viral on Reddit, putting Alice’s Restaurant under a lot of heat. 

“We’d been trying to get these implemented to get rid of service charges because there was a lot of negative connotation to it,” said Andy Kerr, who co-owns Alice’s along with his brother Jamie Kerr. “We finally agreed to the price changes, and we got it printed on Friday (May 10). And the Reddit post came out on Saturday morning. That’s dumb luck.”

The Kerrs said the decision to implement a surcharge was largely due to inflation. For example, pre-pandemic bacon was $3.50 a pound and now it’s $5.50, largely due California regulations on humane pig treatment, and eggs shot up from $25 per case to $100 per case, they said. With profit margins being compressed by at least 50%, the brothers decided to increase their surcharge as inflation increased, rather than continuously reprinting menu prices. 

“I think the restaurant owners are just basically trying to stay alive,” Andy said. “And I think people need to understand that this is not trying to line our pockets with ill-gotten gains.”

Since the pandemic, Flea Street owner Jesse Cool has been using a 3% fee for employee health care and a 20% surcharge to bypass tipping laws that don’t benefit back-of-the-house workers (i.e. cooks and dishwashers). 

“In the state of California, with tipping, the law says that the people who are entitled to the money left on the table are those who are near the table,” Cool said.

While it’s legal to ask front-of-the-house workers to sign an agreement to share tips with back-of-the-house workers, by law the majority of tips must be given to front-of-the-house employees. But since California rules that mandatory service charges are not tips and are the restaurant’s property, instituting a mandatory service charge means an employer can distribute the money from the service charge in any ratio they deem fit, Cool said.  

“The reason we’re doing it is because after the pandemic, nobody wanted to come back to work, and the reason they didn’t want to come back to work was because they were not making enough money to survive,” she said.

While tipping is generally thought of as a way to reward good service, Cool said her “heart-of-the-house” business model motivates her team more to provide excellent service.

“It used to be that the service staff would show up for five or six hours and make all the money, and yet somebody in the kitchen is working eight hours and has no possibility,” she said. “It’s not designated by front-of-the-house and back-of-the-house now. It’s designated by how much determination you have and how many hours you want to work.”

What it could be like without surcharges

If SB 1524 does not pass and surcharges at restaurants become illegal, diners can expect to see increased menu prices. Alice’s Restaurant already increased its prices 7% on average to make up for the lack of surcharge. Flea Street plans to raise prices to increase hourly wages for back-of-the-house workers, who will no longer benefit from a service fee. 

“Our plan is to make sure that we do not take away the benefits that our staff respectfully started receiving once we had a consistent service charge and healthy living percentage fee charged to guests,” Cool said.

Ironically, customers may pay more than before, as tipping the same percentage on higher menu prices means spending even more. Regardless of whether SB 1524 passes or not, Cool will be putting a transparency statement at the top of the menu explaining why prices are what they are. And while the surcharge ban would impact Flea Street’s back-of-the-house workers, there is a silver lining, Cool said.

“People need to know how they spend their money,” she said. “That’s what the law is about. They need to know and understand exactly where what they’re paying for the entire dinner is going, and that’s fair. I actually think that’s a good part of this.”

But if customers are unwilling to pay these prices, local restaurants may be forced to move out of state, said Kim. 

“We’ve looked outside of California, and it really does look so much more appealing when you have lower minimum wages and lower taxes and more small business-friendly policies,” Kim said. “I never thought I would ever consider expanding out of California, but over the last few years it’s seriously been on my mind. We built our success here based in Mountain View and we love this place, but when I think about trying to expand here, I don’t know that we can, as much as I want to.”

‘A symptom of a bigger problem’

One way or another, surcharges are being used to offset rising labor costs. But is the use of surcharges the most effective way to do that? Donato Scotti, owner of Donato Enoteca in Redwood City, argues no. 

“To me, there are fights that would be worth having that are more important than the surcharge that could help restaurants’ labor costs,” he said.

One solution he proposes is tip credit, a system the majority of U.S. states use (except Alaska, California, Minnesota, Montana, Nevada, Oregon and Washington) in which an employer can pay an employee less than minimum wage if that employee earns enough from tips to meet the minimum wage. 

San Jose State professor Dworak proposes a different solution: adjusting the tax code to offset restaurants’ labor cost burden. Instead of imposing an “arbitrary number that we pick out of the sky” for minimum wage, implement tax rebates, he argues. For example, set up a program where restaurant employees enrolled in college can put what they pay in taxes toward paying off their tuition. 

“This whole issue about passing on fees is just kind of a symptom of a bigger problem I think we’re all facing on a going forward basis,” Dworak said. “The pressures on the hospitality industry are much larger and need much more attention than what this statute deals with.”