No Tax on Tips: Will This Proposal Benefit Tipped Workers?

“No tax on tips” is a policy proposed by President-elect Donald Trump that eliminates the taxes currently imposed on tipped wages. This is to potentially increase the net income of workers earning the minimum wage and who rely on tips, such as servers, bartenders, and hospitality workers.

That said, there are some drawbacks to implementing no tax on tips, and some experts say that it may actually do more harm than good. So, if you’re wondering how this policy will impact you and if it will even be approved, read on as we discuss everything you need to know.

Key Takeaways

• Tips that exceed $20 in one month are currently taxed along with the employee’s regular income.
• Trump’s proposal to remove taxes on tips aims to increase low-income workers’ net income.
• Some of the pros of no tax on tips include increasing an employee’s income and streamlining payroll processing. However, its major con is that it won’t benefit a lot of workers and may encourage tax avoidance while leading to fewer pay raises.
• Having no tax on tips means that employers and employees would no longer have to report their tipped income when filing taxes.

Are Tips Currently Taxed?

Yes, tips are currently taxed in the USA. According to the IRS, both cash and non-cash tips will be subject to federal income taxes, but this doesn’t apply to other types of taxes. For instance, the IRS only taxes Medicare and Social Security on cash tips.

How Are Tips Taxed?

Tips are taxed like normal income once they exceed $20. According to the tax rules for servers, if an employee meets this criteria, they are required to report the total amount of cash tips they receive in a month, as it is now considered part of their taxable income.

Because of tipped income taxation, all employees should keep detailed records of the cash tips they receive using Form 4070A, Employee's Daily Record of Tips.

Then, they should report this amount along with their name, address, and Social Security number to their employer by the 10th of the following month. Any unreported tip income will be subject to a fine equivalent to 50% of the employee’s Social Security tax and Medicare tax.

Their employer can then withhold the proper taxes from the employee’s combined wages and tip income and report this amount in their Form 941.

If you’re wondering how to report tips on W-2, they must be stated in the following categories on the form:

• Box 1 or Wages, tips, and other compensation
• Box 5 or Medicare wages and tips
• Box 7 or Social Security tips

Deciphering Trump’s Proposal: No Tax on Tips

The “no tax on tips” policy is a proposal to exempt tips from being taxed, regardless of their amount, to help workers potentially increase their net income.

In President-elect Trump’s own words, “If you're a restaurant worker, a server, a valet, a bellhop, a bartender, or one of my caddies ... or any other worker who relies on tipped income, your tips will be 100% yours.”

Pros and Cons of “No Tax on Tips” Proposal

On a surface level, tax exemption on tips may seem like a policy with virtually no drawbacks, but let’s take a closer look at the pros and cons of this proposal:

Pros of No Tax on Tips

Aside from reducing taxable income, the “no tax on tips” policy offers the following benefits:

• Having no tax on tips means workers in tipped jobs will be able to bring home the full amount of income they receive.
• No tax on tips can help simplify payroll processing for businesses since they won’t have to account for taxed tips.

Cons of No Tax on Tips

While the potential benefits of no tax on tips may seem great, implementing the proposal can also come with the following drawbacks:

• Tipped occupations only make up 2.5% of all employment, which means the policy won’t affect the majority of low-income workers.

• No tax on tips can lead to a decline in tax revenue and encourage tax avoidance, as employees may prefer compensation in the form of tips rather than a salary.

• A third of tipped workers are already earning wages low enough that they aren’t subject to federal income taxes, so no tax on tips won’t have any effect on workers with tax-free income.

• Since no tax on tips potentially increases employee income, it can lead to fewer pay raises.

What Does “No Tax on Tips” Mean for Payroll and Pay Stubs?

The ‘no tax on tips” policy means that payroll processing and pay stub recording could change. For one, employees and employers would no longer have to include tips when filing taxes.

Another change to be expected is in the way workers create pay stubs. Since tips are currently taxed, employees have to include this amount on their pay stubs for accurate record-keeping purposes. If taxes are removed from tips, they no longer have to be added to pay stubs.

Employees should still keep records of tips, as they contribute to overall income. After all, a higher income means better chances of getting approved for loan applications.

Since filing taxes can be confusing once the policy takes place, you can use Paystub.org to help you generate the forms you need. Our online tool uses templates complete with all the data you need for invoices, W-2 forms, and 1099 forms to ensure that you don’t miss any important information when reporting your income.

How Likely Is This Policy to Happen?

The 'no tax on tips' policy is under discussion and has gained significant support. President-elect Trump reiterated this pledge during a recent rally in Nevada, and other government officials and advocates seem to be in agreement, with 20 states already showing their support of this policy.

Moreover, according to a 2024 poll by Ipsos, the tax-free tips policy is supported by 73% of Republicans, 75% of Democrats, and 73% of Independents, which means they see this move as a positive one. That said, some experts have voiced their disapproval of the policy as they believe that its benefits are not enough to outweigh its drawbacks.

So, while the future of no taxes on gratuities is still undecided, workers should continue tip income reporting and following the current tax laws, as failing to report tipped income can be seen as an act of tax evasion since you are essentially underreporting your earnings.

Final Thoughts

If the 'no tax on tips' policy is approved, it could impact how workers file their 1099 and W-2 forms since gratuities would no longer be subject to federal taxes. This will make it easier for both employers and employees to keep accurate financial records and streamline tax preparation.

To further simplify your tax process, consider using Paystub.org’s paystub, 1099, and W-2 Form generators to help you create the documents you need. With our professional tools, you can quickly generate standardized forms to document and report your earnings, even if tips become tax-free.