#notaxesontips

Beginning in 2025, the “No Tax on Tips” provision creates a federal income-tax deduction letting eligible tipped workers exclude up to $25,000 of qualified tips from federal taxable income for 2025–2028. It’s a deduction, not a tax-free miracle: payroll taxes (Social Security and Medicare) still apply, state treatment varies, and the deduction phases out for higher earners (modified AGI above $150,000 single / $300,000 joint). The IRS has issued implementation guidance, and the change was enacted as part of the One, Big, Beautiful Bill (Public Law 119-21). (See IRS guidance and the law on Congress.gov.)

What it does

• Creates a federal income-tax deduction allowing eligible workers to exclude up to $25,000 in qualified tip income from federal taxable income for 2025–2028. Applies to tips reported on W-2s and 1099s and to tips shared or pooled per IRS rules. (IRS) 

• Is claimed on annual tax returns rather than via payroll withholding. Employers must separately account for tips to help employees claim the deduction. (IRS)

What it doesn’t do

• It is not a payroll-tax exemption: employees still owe Social Security and Medicare taxes on tip income; employers must continue payroll reporting for those taxes. (IRS) 

• It does not automatically exempt tips from state income tax; state treatment varies. (IRS) 

• It excludes mandatory service charges, employer-paid bonuses, and other compensation not classified as tips under IRS rules. (IRS) 

• The deduction phases out for higher earners, so it isn’t unlimited. (IRS)

Why this matters

For servers, bartenders, hairdressers, valets, hotel staff and others, tips often make or break a paycheck. In low base-wage jobs, tips close the gap to solvency; taxing them chips away at already-thin take-home pay and feels especially unfair because tips come straight from customers. But tips are legally taxable and feed payroll taxes that fund Social Security and Medicare, so changing their tax treatment affects workers, employers, federal revenue, and future program benefits.

Arguments in favor

1. Immediate boost to low-wage incomes — A deduction raises after-tax pay for many who rely on gratuities and can reduce reliance on public assistance. (Economic Policy Institute) 

2. Labor-market benefits — Higher net pay could cut turnover, lower hiring costs, and make tipped jobs easier to fill without raising base wages. (Tax Policy Center) 

3. Political appeal — It’s an intuitive, visible benefit for frontline workers that can resonate across constituencies.

Arguments against

1. Large fiscal cost — Tips are a big slice of compensation in service sectors; broad relief could cost tens of billions over several years, requiring offsets or higher deficits. (Tax Foundation; Tax Policy Center) 

2. Horizontal inequity — Identical incomes could be taxed differently based solely on whether pay is classified as tips, undermining tax neutrality. (Tax Foundation; National Women’s Law Center) 

3. Employer wage-shifting — Employers might reduce reported base wages and push more pay into tips to exploit tax advantages. (Economic Policy Institute; Tax Policy Center) 

4. Tax avoidance and reclassification risk — Bonuses, commissions, or parts of salary could be relabeled as tips to capture benefits, increasing IRS enforcement needs. (National Women’s Law Center; Tax Policy Center) 

5. Threat to Social Security/Medicare funding — Removing tips from the payroll-tax base without offsets could shrink the funding base and affect future benefits. (Tax Policy Center)

Distributional and economic trade-offs

Distributional effects are complex: while the deduction helps many tip-reliant workers, many of the lowest-income tipped workers already pay little or no federal income tax and might benefit more from refundable credits like the EITC. Thus a broad deduction can disproportionately aid mid-income tip earners. (Congressional analyses; Economic Policy Institute)

Labor supply and wages: Higher net pay could attract workers and reduce turnover, but employer responses (lower base wages, altered hiring) might offset gains. Evidence on behavioral responses is limited. (Tax Policy Center; Economic Policy Institute)

Macroeconomic/fiscal consequences: Revenue losses must be financed by other tax increases, spending cuts, or deficits, each with trade-offs. Modeling the revenue and distributional impacts is essential. (Tax Foundation; Tax Policy Center)

Administrative and implementation challenges

1. Defining “tips” vs. wages — Precise definitions are needed to avoid reclassification of non-tip pay; alignment with FLSA rules could help but may create overlaps. (IRS; DOL) 

2. IRS systems and enforcement — New forms, guidance, IT updates, and enforcement resources will be needed; implementation is resource-intensive. (IRS) 

3. Recordkeeping and compliance costs — Fast-paced, cash-heavy jobs make substantiation burdensome for workers; small businesses may face costly payroll upgrades. (Economic Policy Institute; IRS) 

4. Tip-pooling complications — Applying deductions across pooled tips, especially when shared with non-tipped staff, raises allocation and eligibility questions. (EPI; IRS)

Behavioral and unintended consequences

1. Reduced eligibility for other supports — Changes could interact with means-tested programs and refundable credits, possibly reducing benefits for some workers. (Congressional analyses) 

2. Wage compression and “tip creep” — Employers might expand tipping expectations into previously non-tipped transactions, shifting risk to workers and raising consumer costs. (Economic Policy Institute; Tax Policy Center) 

3. Compliance gaming — Without strong anti-abuse rules, creative reclassification and inflated tip reports could proliferate, requiring audits and penalties. (National Women’s Law Center; Tax Policy Center)

Policy options

1. Full exemption/permanent deduction (broad) — Big immediate gains but high fiscal cost and abuse risk. 

2. Temporary, time-limited deduction (as enacted 2025–2028) — Limits fiscal exposure and allows study, but creates uncertainty and possible short-term gaming. 

3. Threshold-based exemption or capped refundable credit (targeted) — Better targets low/moderate earners and reduces wage-shifting incentives; needs careful calibration. 

4. Preserve payroll-tax treatment while reducing income-tax burden — Protects Social Security/Medicare funding but yields smaller immediate take-home increases.

Recommendation

Reject a full unconditional exemption. Favor a narrowly targeted approach that balances relief with fiscal responsibility and program integrity:

• Offer a modest, threshold-based exemption or refundable credit for the portion of tip income typical of low/moderate earners (a cap well below $25,000 for most). 

• Preserve payroll-tax treatment or provide an alternative that credits Social Security/Medicare accruals. 

• Enact clear statutory definitions of “qualified tips,” excluding mandatory service charges and employer-paid compensation; harmonize with FLSA where feasible. 

• Strengthen reporting: require employers to record and separately report tip pools and allocations; upgrade payroll software and provide small-business transition assistance. 

• Build anti-abuse provisions: penalties for misclassification, targeted audits, and coordination with states to limit arbitrage. 

• Make relief permanent only after rigorous revenue and distributional modeling; if temporary, require an independent evaluation with clear extension criteria.

Conclusion

The “No Tax on Tips” provision responds to a real equity concern: service workers rely heavily on tips and resent taxation on customer gratuities. But a blunt, unconditional exemption risks big fiscal costs, employer manipulation, and benefits skewed toward those who may not need them. A better path is targeted relief that protects program funding, limits abuse, and directs support to the lowest income tipped workers. Alternatively, an across-the-board income-tax rate reduction would raise net pay for all taxpayers without adding complexity or creating perverse incentives. This story ends the same way it always does, the government will give with one hand while taking much more with the other, another lose for the tax payers as usual.

Sources and further reading

Official law, guidance, and government analysis

Public Law 119-21, “One, Big, Beautiful Bill” — full text and legislative actions: https://www.congress.gov/bill/119th-congress/house-bill/21

IRS: “No Tax on Tips” implementation guidance and FAQs (includes reporting instructions for employers, forms updates): https://www.irs.gov/newsroom/no-tax-on-tips-guidance

IRS Forms and Instructions (changes to W‑2, 1099 reporting, and individual return line items): https://www.irs.gov/forms-instructions

Social Security Administration: analysis of payroll-tax base and benefit accrual implications: https://www.ssa.gov/policy/docs/briefs/

Department of Labor: FLSA guidance on tipped-worker wage definitions and tip pooling rules: https://www.dol.gov/agencies/whd/flsa

Budget, revenue, and distributional analysis

Congressional Budget Office (CBO): cost estimates and analysis of P.L. 119-21 and tip-deduction effects: https://www.cbo.gov/publication

Joint Committee on Taxation (JCT): revenue estimates and distributional tables related to the tip deduction: https://www.jct.gov/publications.html

Congressional Research Service (CRS) report: tax treatment of gratuities, policy options, and implications: https://crsreports.congress.gov

Independent research, policy analysis, and briefs

Tax Policy Center: briefing papers and modeling on tip tax changes, labor effects, and payroll-tax interactions: https://www.taxpolicycenter.org/publications

Tax Foundation: revenue estimates, distributional modeling, and commentary on tax design and neutrality: https://taxfoundation.org/research

Economic Policy Institute (EPI): analysis of employer responses, wage-shifting risks, and worker impacts: https://www.epi.org/publication/no-tax-on-tips-analysis

National Women’s Law Center (NWLC): equity-focused analysis on tipped-worker policy and anti-abuse safeguards: https://nwlc.org/resource/exempting-tips-from-taxes/

Center on Budget and Policy Priorities (CBPP): impacts on low-income workers and interactions with refundable credits: https://www.cbpp.org/research/federal-tax

Academic and empirical studies

Katz, Autor, et al. — literature on tipping, employer wage-setting, and labor supply responses (search recent journals 2018–2025) — JSTOR/SSRN/Google Scholar. Example search: “tips wage-shifting turnover tipped workers labor supply.”

Empirical studies on tip-reporting compliance and tax enforcement: look for working papers at NBER and SSRN (2015–2025).

State-level treatment and responses

State tax agency summaries (for states that conform, partially conform, or decouple): link examples — California Franchise Tax Board: https://www.ftb.ca.gov; New York State Dept. of Taxation & Finance: https://www.tax.ny.gov; Texas Comptroller (no state income tax) statement: https://comptroller.texas.gov

Tax Foundation state conformity tracker (which states conform to federal changes): https://taxfoundation.org/state-conformity

Implementation, payroll, and small-business guidance

IRS Employer’s Tax Guide updates and payroll reporting circulars: https://www.irs.gov/publications

Small Business Administration (SBA) guidance and transition assistance for payroll systems: https://www.sba.gov

I. Intro

I don’t tip, and neither should you.

Fundamentally, paying employees is the responsibility of employers. It is not the direct responsibility of consumers. When you buy movie tickets, you pay the price of the ticket and go in. When you buy a toothbrush, you pay the price and get the product. For some reason, when you eat at a restaurant, you are asked to give the restaurant extra money. As time marches on, tipping culture is expanding beyond restaurants to coffee shops and other places with much less customer service (the usual reason given in defense of tipping). Requests for tips have expanded to self-service establishments and even self-checkout machines. One must ask, “what is it that a tip is even for?”

https://www.nytimes.com/2023/11/17/your-money/tipping-self-checkout-inflation.html

(yeah this little practice is destroying our society)

II. Tipping Subsidizes Businesses, Not Employees

In the intro, I described tipping as giving extra money to the restaurant, not to the employee. This is because tips often don’t end up in the pockets of employees, for both legal and illegal reasons.

A. Often, Tips Don’t Legally Have to go to Employees

In the United States, all employees must make minimum wage. At the time of writing, the federal minimum wage is $7.25 per hour and several states have higher minimum wage.

There is a separate tipped minimum wage. This is the wage that employers must pay employees regardless of how much they make in tips. If they don’t make enough with tips plus the tipped minimum wage to reach the regular minimum wage, the employer must make up the difference.

At the time of writing, 25 states have tipped minimum wages lower than $4 per hour. 16 have the federal minimum of $2.13 per hour.

For example, in Alabama, where both minimum wages are at the federal minimum, a server working one hour and earning no tips receives $7.25 from their employer. The next hour, they receive $5 in tips. The server still earns $7.25 for the hour, with the employer’s contribution greatly reduced.

Some jurisdictions have taken the admirable step of legally requiring employers to pay their employees the full value of their tips in addition to the regular state minimum wage. Which brings us to…

B. Even When Employees are Entitled to Tips, They Often Don’t Get Them

Employees are legally entitled to their tips, either when tips put the employee above the tipped minimum wage, or when their state mandates that tips do not reduce an employer’s required compensation for the employee. However, even when legally mandated, employees often don’t get their tips.

Tips are irregular by nature. Not only do customers tip inconsistent amounts from week to week, but in many establishments, employees are supposed to “split” their tips with back-of-the-house workers, who are often not directly tipped by the customer. Inconsistent customer behavior and opaque tip-sharing formulas make it extremely tempting for employers to steal tips that their employees have earned.

(employers be like, I'll take that thank you very much)

A 2008 study by the National Employment Law project found that 12% of tipped workers surveyed had experienced tip theft during the previous work week.

III. Tipping is a highly discriminatory practice

Tipping culture discriminates based on where you work (low wage workers in grocery or hardware stores don’t get tipped like restaurant workers), what you do at work (servers and baristas are tipped more than cooks and janitors) and, most egregiously, looks.

Tipping makes your pay largely defendant on the whims of customers. Needless to say, this has consequences. People who are already typically disadvantaged by society face discrimination in tipped wages.

Black servers in the United States saw their tipped wages decline more severely than white servers during the pandemic. Who could have seen this coming?

(Reminder that restaurants used to routinely look like this not that long ago)

And let’s not forget the plight of our female friends struggling in the bust department. It’s common knowledge that servers with bigger breasts get bigger tips (and conversely, servers with smaller breasts get smaller tips). Mythbusters even went so far as to test it (sadly true).

(Usually, the Mythbusters test things that involve explosions, not discrimination. Maybe because the discrimination myth they tested turned out to be a real bummer?)

The culture of tipping makes the service industry just one more place where people are punished or rewarded based on the immutable traits of how they look. If your pay at an office job was based on how pretty your boss thought you looked, it would be an outrage. Why is the tipped wage for servers any different?

IV. Thesis: Tipping is class warfare perpetuated by the rich against the poor.

Let me tell you a story from my childhood. On military bases, there is a low cost grocery store called a commissary. It’s run by the federal government through the defense commissary agency. The point is to sell products near or at cost because military service members, particularly low ranking enlisted ones, are paid a mere pittance. If they have families, it is often difficult to make ends meet.

We lived in unsafe military housing, with water that from time to time, ran brown out of the faucet. We shopped at at the commissary, and at the checkout line, there was a large sign displayed: Baggers worked for tips. Forget tipped minimum wage. If you didn’t tip, they didn’t get paid.

We were poor, that’s why we shopped at the commissary. And yet, every time there was a song and dance where we, who had little money were pitted against the retired veterans who bagged for free, hoping to supplement their too small pension. It was all artificial. The government could have paid both of us more, but instead chose to pit the poor against the poor to distract from the fact that the government wasn’t paying us.

Most situations are not that extreme. In restaurant environments, workers typically will make minimum wage no matter what, but the underlying principle is still there. When servers are underpaid, they blame customers, rather than the boss. Their rage is directed away from the person who can actually solve the problem by providing consistent working hours and a predictable, fair wage. Instead, servers blame people who could only provide a one time cash injection.

V. We are moving in the wrong direction

On July 4, 2025, the president signed a budget bill that eliminated federal income tax on certain tipped income. The new rules are, in a nutshell:

Taxpayers must work in “occupations that are listed by the IRS as customarily and regularly receiving tips”

“Qualified tips” are voluntary cash or charged tips received from customers or through tip sharing.

Maximum annual deduction is $25,000 ($50,000 for joint filers); for self-employed, deduction may not exceed individual’s net income (without regard to this deduction) from the trade or business in which the tips were earned.

Deduction phases out for taxpayers with modified adjusted gross income over $150,000 ($300,000 for joint filers).

And they are not as helpful as you might think:

A. This won’t help the poorest tipped workers.

Those who make less than the standard deduction won’t benefit. This is a tax deduction. Not a tax credit. As the Forbes breaks down, this will help the richest tipped employees. When you think of who benefits, think less of servers at greasy diners and more casino Blackjack dealers.

Congress could have acted to help substantially more people by raising the minimum wage, which it has not done since 2009, when it was raised to a meager $7.25 / hour. If they wanted specifically to help tipped workers, they could have raised the tipped minimum wage, or eliminated it so that they always had to receive the regular minimum wage in addition to tips. The federal tipped minimum wage has been $2.13 for close to three decades.

B. These rules further divide working people.

We make already distinctions between certain kinds of income for taxation purposes. For example, making money in the stock market (i.e.) capital gains, is taxed at a lower rate than wages (i.e.) “ordinary income.” With this, we send the message that we want people working less and investing more. It’s an insulting message when so many Americans don’t have a basic emergency fund. With what money are they supposed to invest? This logic carries forward to not taxing tips.

These new rules tell people their work is more valuable if they work in traditionally tipped customer service industries. Lots of hardworking people in this country need a break, but will find themselves proportionally paying more of the tax burden because servers and other tipped individuals will pay less taxes. Think EMTs, Nurses, Teachers, Sanitation Workers, and Firefighters. These people do mission critical work for our society, but will now pay a higher percentage of their income in taxes, not just compared to day traders and investors, but also bartenders and servers. This reform leaves out in the cold mission critical individuals, further divides working people against each other, and violates a basic principle of equity.

C. It’s bad economic policy

Economists also worry that people will scramble to reconfigure their income to rely more on tips. There are plenty of opportunities for people in traditionally tipped professions to shift money over, either when the collect it from the customer or when they report it to the IRS (if they report it at all) from wages to tips. It will be very difficult to verify that “tips” are actually tips. This will increase the cost of the policy, and deprive the federal government of tax dollars to do its work. The resulting increased borrowing will be responsibility of young people to repay one day in the future.

D. Logically, it falls flat on its face

Remind me again, what is a tip? Ignore for a second the previously referenced self checkout machines that ask for a tip. If it’s compensation for a job well done, it is wage, and should be taxed the same way we tax the wages of doctors, teachers, or firefighters. That’s how I think of it. But because it’s not truly compulsory (although enforced by heavy societal pressure) it is rather a gift. But this isn’t a good reason to not to tax it. Gifts are taxed. Remember when Oprah gave all those people new cars? Yeah, they had to pay taxes on those.

(You get a car! You get a car! You also get a $7,000 tax bill. I actually don't think that's so objectionable. Taxes are how we fund society after all. Besides, these were nice cars. The recipients could easily sell them, pay the gift tax, and buy a more modest, but still good car with the proceeds.)

VI. Conclusion

When you tax something, you will get less of it. Conversely, eliminating taxes on something, means, all else being equal, you will get more of it. If the words above these have convinced you that tipping is bad (or perhaps you already believed it), then exempting certain tips from federal taxes will only make tipping culture more prominent, and the hunt for tips more aggressive. Our saving grace is that like most things congress does, this tax exemption was temporary. It is set to expire at the end of tax year 2028. This means that assuming congress does nothing (a reasonable assumption), the next president will have to deal with some angry workers outraged that they have to pay taxes on their income like other working people.

It’s easy to see how this behavior hurts working people and enriches oligarchs. So what can we do about it?

First, when presented with the option to tip, don’t. This includes all situations, not just in restaurants. We must starve the beast. It will be painful at first, but if people stop expecting tips, they will start to demand better compensation from their employers.

Second, when the no taxes on tips provision is up for renewal, call your congressman, and tell them you want tips to be taxed again.

Third, if you are a tipped employee, demand better. Collaborate with your fellow workers to demand better treatment from your boss. Dare I even say it? Unionize.