Traditionally, all tip income was taxable, and workers had to report any cash tips exceeding $20 per month to their employer. But in 2025, the One Big Beautiful Bill introduced temporary exemptions: individuals can deduct up to $25,000 in tips from their income if they meet all the qualifications (though tips will still be subject to Social Security and Medicare plus state and local taxes). Additionally, a portion of overtime pay will be partially deductible as well. These changes, which last through 2028, could bring tax relief, but they also come with new reporting rules.
A financial advisor can help you understand how these changes affect your tax situation and ensure your tip income is handled correctly.
Key Takeaways
- Starting in 2025 and lasting through 2028, eligible tipped workers can deduct up to $25,000 in cash tips from federal taxable income, along with up to $12,500 in overtime pay (up to $25,000 for joint filers), under President Trump’s “One Big Beautiful Bill.”
- These exemptions gradually phase out for individual taxpayers earning over $150,000 or joint filers over $300,000, reducing the benefit for higher-income earners.
- Even with the exemption, all tip income must still be reported to employers and the IRS. In 2025, employers must begin itemizing qualified tips and overtime on W‑2 forms.
- This tax relief applies only through 2028, unless Congress acts to extend the provision; after that, full taxation of tips resumes.
How Tips Have Been Taxed Historically
Before 2025, anyone earning tips had to report them as taxable income, regardless of whether they were cash or credit-card tips. According to IRS guidelines, employees must report tips of $20 or more in a month to their employer, who then includes the amount in income for federal taxes, Social Security and Medicare.
Failing to report tips accurately could result in penalties and audits. Some industries even implemented tip pooling, further complicating reporting. Even though many workers earn “under-reported” tips, the IRS has historically enforced tip-reporting rules strictly, making tip taxation a long-standing concern.
What Trump’s Tax Law Changes Mean for Tips
The new law includes the No Tax on Tips Act, allowing workers in traditionally tipped occupations to deduct up to $25,000 of cash tips from their taxable income each year from 2025 through 2028. It also allows people to deduct up to $12,500 in overtime pay ($25,000 for joint filers), under the same timeline and income thresholds.
However, these exemptions begin to phase out for individual earners above $150,000 and joint filers above $300,000. You must also provide your Social Security number—and your spouse’s, if filing jointly—to qualify. Undocumented workers remain ineligible.
These changes are temporary, set to expire after the 2028 tax year. If legislation isn’t extended, these exemptions will sunset and tip income will again become fully taxable.
Do You Still Have to Report Tips?
Yes. The requirement to report tip income remains in effect even if some of it is now deductible. You must continue to report all tipped income to your employer and the IRS using Forms 4137 (if underreporting) or 1099 for independent contractors. Employers also must now list qualified tips as a separate line item on W-2 forms starting in 2025, or estimate them reasonably under the IRS-approved process.
Record-keeping is essential, so it’s a good idea to track cash, credit and pooled tips monthly. This documentation will be vital when calculating your eligible deduction and proving compliance if audited.
Applying the Tip Exemption in Practice
To see how this works, let’s look at a server making $30,000 in annual wages and $20,000 in reported tips:
- Total tip income: $20,000
- Exempt amount: All $20,000, since it’s under the $25,000 cap
- Taxable tips: $0
- Additional income tax savings: Based on their tax bracket, this could save hundreds or even thousands annually
If tips exceed $25,000—for example, $30,000—then only $25,000 is deductible. The extra $5,000 is taxable. Overtime is treated similarly, with a $12,500 limit for single filers.
Pitfalls and Considerations
There are a few things to keep in mind when it comes to these changes:
- This only applies to federal income tax: FICA(Social Security andMedicare) and state and local income taxes still apply to all tips.
- There’s a phase-out for high earners: The deduction phases out for incomes above $150,000 (single) or $300,000 (joint).
- This is only temporary: The deduction is eligible only through tax year 2028 unless Congress acts to extend it.
- Remember the occupation qualification: Only “traditionally tipped” occupations qualify—as defined by the Treasury by October 2025. Some argue this leaves out kitchen staff or other hospitality workers.
What Workers Should Do Now
If you earn tips or overtime, here’s what to do:
- Report all tips: Continue using Form 4137 or employer systems to accurately track all tip income.
- Track tip categories: Distinguish between cash, credit and pooled tips to calculate exemptions correctly.
- Educate your employer: Encourage your employer to separate and report qualified tips and overtime on W-2. Employers can estimate if needed.
- Calculate income phase-out: If you’re near $150,000 or $300,000 thresholds, estimate the phase-out to understand how much deductibility remains.
- Consult a financial professional: A tax advisor can help you integrate these changes into your filing strategy and ensure compliance, maximizing savings while avoiding missteps.
Bottom Line
Under the new tax law, you will still have to report your full tip income, but up to $25,000 in cash tips and $12,500 ($25,000 for joint filers) in overtime may be deducted from federal taxable income, eligible through 2028. Employers must now provide clearer reporting, and workers must keep detailed records to claim the benefits accurately.
Tax Planning Tips
- A financial advisor can help you mitigate risk for your portfolio. Finding a financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with vetted financial advisors who serve your area, and you can have a free introductory call with your advisor matches to decide which one you feel is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- If you’re planning for retirement, don’t forget to account for taxes after you leave the workforce! Mandatory distributions from a tax-deferred retirement account can complicate your post-retirement tax planning. Use SmartAsset’s RMD calculator to see how much your required minimum distributions will be.
Photo credit: ©iStock.com/Ivan-balvan, ©iStock.com/Antonio_Diaz, ©iStock.com/Prostock-Studio
Read the full article here
