No Tax on Tips: What the New Bill Means for Your Taxes

Millions of service industry workers in the U.S. rely on tips for a significant part of their income. This includes bartenders, waitstaff, hairstylists, and hotel attendants. But until recently, the IRS treated those tips just like wages for federal income tax purposes. That changed in 2025.

On July 4, 2025, President Trump signed the One Big Beautiful Bill Act (OBBB) into law, which includes the “No Tax on Tips” provision. The law lets workers deduct up to $25,000 in reported tips from their taxable income. This significantly reduces taxes for those who depend on gratuities.

What does this mean for your paycheck? How will it affect the tax forms you receive—or the ones you file? This blog explains what the law says and who it affects. It also covers how it changes your tax forms. If you work in service or beauty, here’s how your taxes are changing starting in 2025.

What is the “No Tax on Tips” Provision?

The “No Tax on Tips” provision was enacted to provide tax relief for workers who earn income from tips. It helps those who earn much of their income from customer tips. The provision originated from a bill introduced by Senator Ted Cruz, which a bipartisan group of lawmakers backed. The original bill passed the Senate in May 2025 with unanimous support (an increasingly rare feat in Washington) before being incorporated into the larger OBBB legislation.

The goal of the provision is simple: exclude up to $25,000 in cash tips from federal income tax each year. But the exclusion applies only to qualified, reported tips. Workers report these tips to employers, who then include them on tax forms like the W2. Self-employed individuals can also claim the deduction for tips reported on Form 1099 or directly on their tax returns.

Who Qualifies?

To benefit from the deduction:

• You must receive tips in cash (credit card tips count too, as long as you report them).
• You must report those tips to your employer or on your tax return if self-employed.
• You must work in an occupation where tipping was customary as of December 31, 2024.
• The deduction phases out for single filers with modified adjusted gross income (MAGI) over $150,000 and for joint filers over $300,000.

This deduction is “above the line” on your tax return. You don’t need to itemize to benefit. It reduces your adjusted gross income (AGI). A lower AGI could help you qualify for credits like the Child Tax Credit or Premium Tax Credit.

*Important: The deduction is temporary and applies only to tax years 2025 through 2028.*

Who Does the Law Affect?

The “No Tax on Tips” provision directly targets tipped workers; people who rely heavily on customer gratuities for income. This includes a wide range of roles in the hospitality, food service, and personal care industries. If tips make up a meaningful portion of your income and you report them to your employer, this law will have a direct impact on your taxes.

Professions Likely to Benefit –

The Treasury Department has issued proposed regulations identifying specific occupations that qualify. The list covers a broad range of service, entertainment, hospitality, and home service jobs where tipping is customary, including:

• Restaurant servers and bartenders
• Hotel staff, such as bellhops and room attendants
• Rideshare and delivery drivers
• Casino dealers and gaming service workers
• Hair stylists, barbers, nail techs, and estheticians
• Massage therapists and spa workers
• Valets and parking attendants
• Dancers, musicians, and digital content creators
• Home service providers like plumbers, electricians, and HVAC technicians

Basically, if tipping is customary in your job and you report your tips, this law directly benefits you. One important caveat: the deduction phases out starting at $150,000 MAGI for single filers ($300,000 for joint filers) at a rate of 10%. For a single filer claiming the full $25,000 deduction, it would phase out completely at $400,000 MAGI. This structure helps ensure the benefit primarily targets middle- and lower-income workers.

*Note: Special rules disallow the tip deduction for individuals operating in “specified service trades or businesses,” including health, law, accounting, consulting, and financial services fields—even if they otherwise meet the occupational requirements.*

Tip Reporting is Essential –

To take advantage of the deduction:

• You must accurately report tips to your employer or on your tax return.
• Under the law, the IRS taxes these reported tips and employers include them on Form W2.
• With this law, those same reported tips now reduce your taxable income: a strong incentive to report tips honestly and consistently.

Failing to report tips still carries penalties and could disqualify you from receiving the benefit. So while the law lightens the tax burden, it also reinforces the importance of staying compliant with IRS reporting rules.

What This Means for Your Tax Forms

Now that the “No Tax on Tips” provision is law, it doesn’t change how your employer reports your income, but it does change how you report and deduct tip income when filing your personal taxes. Knowing which tax forms you need will help you prepare and file accurately.

Form W-2: Employer Reporting

Your employer will still issue a W2, which reports all of your wages—including tips. Here’s how tips typically appear:

• Box 1 – Wages, tips, and other compensation: This includes all reported tips.
• Box 7 – Social Security tips: This box shows tips subject to Social Security tax.

The law does not change what goes on your W-2. Employers must still include reported tips, and you must continue to pay Social Security and Medicare (FICA) taxes on them.

Under the law, you’re now able to subtract up to $25,000 in reported tips from your taxable income on your own tax return, effectively reducing how much income tax you owe.

Form 1040: Where You Claim the Deduction

Your individual tax return, Form 1040, is where the magic happens.

• The deduction for reported tips would be an “above-the-line” deduction, which means:
  • You don’t need to itemize deductions to benefit.
  • It reduces your adjusted gross income (AGI) directly.
  • A lower AGI could also make you eligible for other credits and benefits.

The IRS is updating income tax forms and instructions to help taxpayers claim these deductions when filing for tax year 2025.

Form 4137: For Additional Tips

If you didn’t report all your tips to your employer, you can still report them using Form 4137, “Social Security and Medicare Tax on Unreported Tip Income.” This form helps you pay the correct FICA taxes, even if your employer didn’t withhold them.

*Good news: Tips reported on Form 4137 do qualify for the deduction. According to IRS guidance, you may include unreported tips from Form 4137, line 4 when determining your qualified tips for the tax year.*

How Does This Affect Your Finances?

Now that the “No Tax on Tips” provision is law, it offers real tax savings for service workers by allowing up to $25,000 in reported tips to be deducted from federal taxable income. For example, a worker earning $40,000 in base wages and $15,000 in tips would currently have a taxable income of $55,000. Under the new law, that taxable income could be reduced to $40,000—potentially lowering the worker’s overall tax liability. This reduction could not only push someone into a lower tax bracket but also increase eligibility for income-based credits like the Earned Income Tax Credit (EITC) or the Child Tax Credit (CTC).

In practical terms, a lower taxable income means the taxpayer might owe less to the IRS at filing time—or receive a larger refund if more tax was withheld than necessary throughout the year. This could provide welcome relief during tax season for workers who depend on refunds to catch up on expenses or make planned purchases. According to one analysis, the average single taxpayer in a tipped occupation could see tax savings of approximately $1,985 in 2025.

The law also changes the incentive structure around tip reporting. In the past, some workers may have hesitated to report all of their tips, fearing higher taxes. Now, there’s a clear benefit to being transparent: each dollar of reported tips—up to $25,000—reduces what you owe in taxes. This shift could lead to better compliance with IRS rules and more accurate reporting industry-wide.

However, it’s important to note that the law only addresses federal income tax—not payroll taxes. You’ll still owe Social Security and Medicare taxes (FICA) on all reported tips, and employers will continue withholding and reporting those amounts on your Form W-2. So while your take-home pay might not immediately increase, your year-end tax burden could decrease significantly, improving your financial picture in the long run.

Also Worth Knowing: No Tax on Overtime

The OBBB also includes a separate “No Tax on Overtime” provision. Eligible single filers can deduct up to $12,500 in qualified overtime pay ($25,000 for joint filers) for tax years 2025 through 2028. This applies to the premium portion of overtime pay—typically the “half” in “time-and-a-half”—required under the Fair Labor Standards Act. The same income phaseouts apply ($150,000 for single filers, $300,000 for joint filers).

When Does This Take Effect?

The “No Tax on Tips” provision is now law, having been signed on July 4, 2025. The deduction is effective for tax years 2025 through 2028. That means workers are already benefiting from the deduction for tips earned in 2025, and they will claim the deduction when they file their 2025 tax return in 2026.

Since employers will still report your total tip income on Form W-2, the IRS will use that information to validate any deduction you claim on your Form 1040. It’s important to maintain detailed records of your reported tips. This way, you’ll be able to take full advantage of the deduction when you file—and you’ll remain compliant with IRS rules throughout the year.

Keep in mind that the deduction is temporary and currently set to expire after 2028. Future legislation could extend or modify these provisions, so stay informed about any updates.

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FAQs

• How will state income taxes treat reported tips if the federal law changes?
  Even if the “No Tax on Tips” Act becomes federal law, most states will continue to tax tip income unless they pass similar legislation. Workers should check with their state’s tax agency to see if any changes are being considered or enacted at the state level.
• Will this deduction apply to undocumented workers who earn tips?
  No. To claim any deduction on a federal tax return, including this one, you must file using a valid Social Security Number or Individual Taxpayer Identification Number (ITIN). The law is intended for workers who report tips to employers and file legal federal tax returns.
• Do cash-only businesses have to do anything differently under this bill?
  No changes are required for how cash-only businesses operate. However, they may see increased pressure to maintain accurate tip reporting systems, since more employees may now want to officially report tips to benefit from the deduction.
• Could the deduction be claimed retroactively for tips earned before 2025?
  No. The bill is structured to take effect starting with the 2025 tax year. That means only tips earned on or after January 1st, 2025, would be eligible for the deduction—assuming the bill becomes law.
• Can this deduction be combined with other work-related deductions?
  Yes. Because it's an above-the-line deduction, it doesn’t interfere with other itemized or standard deductions. You can still claim other deductions you qualify for, such as unreimbursed expenses or educator expenses, depending on your situation.

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