“No Tax on Tips”? Not Exactly—Here’s What Employers Needs to Know

You may have already heard it: “My buddy said tips aren’t taxed anymore!”

That’s the buzz around the One Big Beautiful Bill, and as the employer, your job is to know what’s actually true — and how to keep your payroll compliant.

What’s Behind the “No Tax on Tips” Buzz?

The bill introduces a new personal tax deduction for tipped employees — but it doesn’t mean tip income is exempt from taxes.

Here’s what changed:

Starting in 2025, employees can deduct up to $25,000 per year in qualified tips on their personal tax return (Form 1040).

To qualify:

• The tips must be reported on a W-2
• The employee must work in a role the IRS considers “customarily and regularly tipped”
• Their income must be below the phaseout thresholds ($150k single / $300k joint)

Important: This is not a payroll exemption — you’ll still need to withhold taxes on all tips.

What HR Pros Need to Know

Tips are still taxable income

Nothing about this law changes how you handle tips in payroll. You still need to:

• Withhold federal and state income tax
• Apply FICA (Social Security and Medicare)
• Report total tips on the W-2

This is a deduction, not an exemption

Think of it like the educator expense or student loan interest deductions. Employees can subtract qualifying tip income from their taxable income at tax time — not during payroll.

So yes, their take-home pay is taxed as usual. But they may get a break on their 1040 if everything’s reported correctly.

Three Steps You Can Take to Prepare

1. Keep tips reported and documented accurately

Work with your payroll provider or internal system to make sure:

• Reported tips are logged under the right employee
• Tip records are retained in case the IRS updates guidance
• You’re familiar with Form 4070 and Form 8027 (if applicable to your industry)

2. Prepare W-2s with occupation data in 2025

The IRS will release a list of “tipped occupations” by October 2, 2025. You’ll be expected to report both:

• Total tips received
• The occupation of the employee receiving them

Be ready to add occupation codes or notes to W-2s once guidance is finalized.

3. Coach managers on what to say

Here’s a simple script HR or managers can use:

“You’ll still see taxes taken out of your tips — that hasn’t changed. But you may be able to deduct some of that tip income on your tax return next year. We’ll keep reporting everything accurately so you’re set up for that.”

You Don’t Need to Change Your Payroll System—But You Do Need to Stay Informed

The One Big Beautiful Bill opens the door for a helpful deduction — but only if everything is reported correctly. You don’t have to overhaul your process right now, but you do need to track tips cleanly, flag job roles, and prepare for new W-2 reporting expectations.