There’s no question that President Trump’s proposal to stop taxing tips has broad appeal. It’s popular in polling, lawmakers in both parties support it, and now a version of the idea is on its way to becoming law.
But the effect of the policy would actually be quite narrow. About 3 percent of American workers receive tips, but about a third of those employees would not see a gain from the change.
That’s because of the way Republicans structured the policy in the tax legislation they passed through the House recently. Here’s who would benefit under their plan — and who wouldn’t.
The proposal would leave out workers who are not tipped.
The tax break is good news for people in industries like dining, where tips are a big part of worker pay. But it also means that two employees making the same amount, one a bartender and one a retail salesperson, could soon face very different tax bills.
These two workers each make $40,000, but the tipped worker would owe a lot less in taxes.
The tax exemption would create a huge incentive for more people to try to earn tips. The Republican legislation lays out some ground rules, tasking the Treasury Department to limit the tax break to jobs in which workers have traditionally received tips. This could become the subject of intense lobbying, as companies try to convince the government that their employees deserve the tax break. Uber and DoorDash have already pushed to make sure their drivers can qualify for tax-free tips.
Many of the lowest-earning tipped workers wouldn’t benefit much, or at all.
Another obstacle to benefiting from the tax break is the way income is taxed in America. In general, before they pay taxes, Americans subtract deductions from their income, and then the government assesses tax on that smaller amount of money.
Everyone can take the standard deduction, which would be worth $16,000 for individuals and $32,000 for married couples this year under the Republican tax bill. “No tax on tips” would take the form of a deduction people can claim on top of the standard deduction, shrinking their taxable income even more.
But for a tipped worker who doesn’t make much more than the standard deduction — say a college student who waits tables over the summer — the ability to claim an additional deduction would not generate much in tax savings. Someone making less than the standard deduction would have no taxable income to begin with.
The policy would save this low-wage waiter a small amount.
It’s important to note that the tips exemption applies only to the federal income tax. Workers would still owe payroll taxes, like the 6.2 percent Social Security tax, on their tipped income. They may also owe state income taxes on their tips.
For many low-income Americans, payroll taxes, rather than the income tax, are the biggest taxes they pay. Roughly 37 percent of tipped workers already don’t owe any federal income tax, according to an estimate from the Budget Lab at Yale.
Others wouldn’t gain because other benefits already eliminate their tax burden.
There are other tax breaks that could eliminate a worker’s tax liability before “no tax on tips” comes into the picture. For example, a full-time Uber or Lyft driver who can take advantage of the mileage deduction, which increases with every mile driven, may not have much use for another tax break.
The policy wouldn’t make a difference for this ride-share driver.
An exception to this would be tax benefits that are “refundable.” These are tax credits, like the earned- income tax credit, that give money to Americans even if they don’t owe anything in income tax. So these tax credits can become cash payments to low-income Americans. Because of that, workers could conceivably use the tips deduction to reduce their tax bills to zero and still receive the same benefit from a refundable tax credit.
The more money someone makes, the bigger the benefit.
The deduction would be most meaningful for those who make enough to owe a fair amount in income taxes. A typical tax cut for someone earning enough to benefit from the plan could be worth roughly $1,800.
This hairdresser would save the typical amount among those who would benefit.
This dynamic is a microcosm of how cuts to income taxes often work: The more money you make, the more you pay in tax and therefore the more you save from a tax cut. In this case, though, your benefit would depend both on how much you make and what share of your income comes in the form of tips.
This Las Vegas blackjack dealer would save a lot based on his significant tips.
This would be true up to a point. The Republican legislation would bar tipped workers making more than $160,000 from claiming the break. (That level would apply for this year and increase over time.)
The cut-off is a stark one. A tipped worker making $160,001 would, under the bill, receive nothing, potentially encouraging people to try to lower their earnings to claim the tax break. Making that extra dollar could mean thousands in additional taxes.
“No tax on tips” could end up as a short-lived experiment. In the House-passed bill, the policy would last only through 2028, though the legislation could change in the Senate.
Many tax-policy experts are rooting for the demise of the deduction, which they see as another potential hole in a tax system so strewn with carve-outs that it is often compared to Swiss cheese. In general, they would prefer a system that charges roughly the same tax on workers with roughly the same earnings, rather than creating a tax advantage for certain types of work.
“It’s the exact opposite of the general principles that tax policy purists advocate for,” said Joseph Rosenberg, a senior fellow at the Urban Institute.
About the data
Illustrated examples were constructed using data from a summary of the House Republican bill (proposed tips policy, standard deductions and tax rates); the Bureau of Labor Statistics (typical wages by occupation); companies and industry groups (estimated typical tip shares); and analyses from the Budget Lab at Yale and the Tax Policy Center (distributional effects of the policy). Workers in all examples have a single tax-filing status.
