A new tax provision often referred to as “no tax on tips” has generated a lot of discussion among workers in tip-based industries. While the name suggests that tip income may be completely tax-free, the reality is a bit different.
Rather than eliminating taxes on tips altogether, the law introduces a new tax deduction for certain tip income, subject to several rules and limitations. Here’s what you need to know about how this provision may impact your tax return.
The provision included in the One Big Beautiful Act allows eligible taxpayers to take a tax deduction on certain tip income. This means tips are still reported as income, but qualifying taxpayers may be able to deduct a portion of that income when filing their tax return. However, this deduction is temporary and only applies to tax years 2025 through 2028.
The deduction is capped at $25,000 per tax return per year.
It’s important to note that this limit applies per return, not per person. For example:
The deduction begins to phase out for higher-income taxpayers.
The phase-out thresholds are:
Additionally, if you are married, you must file a joint return to claim the deduction, and the individual claiming the tip deduction must have a valid Social Security number.
To be eligible for the deduction, tips must meet specific criteria. First, the tips must be earned in an occupation that appears on the Treasury Department’s list of commonly tipped occupations. Second, the tips must be considered “qualified tips.” One of the most important requirements is that the tip must be voluntarily paid by the customer.
This means the following do not qualify:
Only voluntary tips from customers are eligible.
Another important requirement is that tips must be properly reported. For tax year 2025, reporting may be somewhat confusing because Form W-2 will look the same as it did in previous years. The form will still show total tips earned but will not distinguish between qualified and non-qualified tips.
The IRS has indicated that taxpayers should do their best to report the correct amount for the 2025 tax year. Many experts believe the IRS will be unlikely to challenge taxpayers who simply use the total tip amount reported on their W-2 when calculating the deduction.
Starting in tax year 2026, reporting will become more structured.
Employers will be required to:
This should make it easier for taxpayers to determine exactly how much tip income qualifies for the deduction.
To claim the deduction, taxpayers will need to complete a new form called Schedule 1A, where the amount of the deduction will be calculated. The deduction is available whether you itemize deductions or take the standard deduction, making it accessible to a wide range of taxpayers.
While the phrase “no tax on tips” may sound straightforward, the reality is that this provision is a temporary deduction with specific eligibility rules. Tip earners should be aware of the limitations, reporting requirements, and upcoming changes to ensure they receive the full benefit available to them.
If you earn tip income and have questions about how this deduction may affect your tax return, working with a tax professional can help you navigate the rules and maximize your tax savings.
Associate Partner
Julie has over 20 years of experience in public and private accounting, representing varied clientele including the medical, legal, and real estate industries and trusts.
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