No Taxes on Tips???
Published By
Mike Sorrentino
Published On
November 2024
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Intro
Yale University’s Budget Lab estimates that in 2023, there were 4 million workers in tipped jobs, comprising about 2.5 percent of the U.S. workforce.
The Proposal: No Taxes on Tips
Under current U.S. tax law, tips earned by service workers are considered taxable income. Employers are required to report tips, which are then subject to federal and state income taxes, as well as payroll taxes. This means that tipped employees must track and report their tips, and taxes are automatically withheld from their paychecks based on these amounts.
The “No Tax on Tips Act,” proposed by some legislators, would eliminate income taxes on tips, allowing workers to keep 100% of their gratuities. Proponents argue this would give service workers more take-home pay and reduce financial stress, especially for those who rely heavily on tips to make ends meet
Potential Benefits
Removing taxes on tips would increase workers’ net income without raising their base wages. This could be a game-changer for service employees, many of whom work for minimum wage plus tips. Minimum wage rates are run through the state level so they do vary dramatically. Also for tipped workers the minimum wage is usually lower than regular minimum wage due to tip credits. For both workers and employers, a “no-tax” policy could reduce the administrative burden. Employees wouldn’t have to report their tips as income, and employers wouldn’t need to track and withhold taxes on tips. This simplicity might be especially appealing to smaller establishments that lack robust payroll systems. More disposable income in the hands of workers could increase spending within local economies, particularly in areas with large service sectors. Workers who earn more are likely to spend more, which could benefit nearby businesses.
Overall, 72% of U.S. adults say tipping is expected in more places today than it was five years ago.
Challenges and Considerations
As with anything there is potential for bad actors to “work” the system. Critics of the proposal worry that eliminating taxes on tips could open up loopholes for higher earners who might try to classify some of their earnings as “tips” to avoid taxation. For example, there is concern that hedge fund managers or high-earning consultants could misuse the system to reduce their tax liabilities. Tips are currently subject to payroll taxes, which contribute to Social Security and Medicare funds. If tips were no longer taxed, it could reduce contributions to these essential programs, potentially affecting their long-term viability. For workers, lower payroll contributions could mean reduced Social Security benefits upon retirement.
IRS statistics show that in 2018, taxpayers reported $38.3 billion in tips.
What will the future bring?
As the restaurant industry recovers post-pandemic and faces new labor challenges, policies like the “No Tax on Tips” act could be hot topics for legislators, industry advocates, and workers’ unions. The National Restaurant Association and other industry groups have expressed mixed reactions, indicating both the benefits of higher take-home pay for workers and concerns about tax administration and compliance.
Baby boomers (ages 59-77) tip the most frequently of any generation for most services.
Conclusion
Ultimately, this proposal underscores broader conversations about wage standards, tipping practices, and fair compensation in the service industry. If no-taxes-on-tips legislation progresses, it may influence related discussions on minimum wage, benefits, and employment practices across the hospitality and service sectors. Since many tips go unreported it would be interesting to see if there will be an increase if tips will now longer be tipped.