When President Trump signed the One Big Beautiful Bill Act (OBBBA) into law on July 4, 2025, it delivered on one of his most prominent campaign promises: eliminating federal income tax on tips for millions of American service workers. The provision, which took effect immediately, allows qualifying employees to deduct up to $25,000 in tip income annually through 2028.
How the Deduction Works
Unlike previous proposals that would have completely exempted tips from taxation, the final legislation structures the benefit as a federal income tax deduction. This means tip income still counts toward your gross income but can be subtracted when calculating your taxable income.
The mechanics are straightforward:
- Maximum deduction: $25,000 per year
- Availability: Can be claimed whether you take the standard deduction or itemize
- Duration: Tax years 2025 through 2028
- Income limit: $150,000 for single filers; $300,000 for married couples filing jointly
The income limits will be adjusted for inflation in subsequent years.
Who Qualifies?
The Treasury Department and IRS released comprehensive guidance in November outlining 68 job categories that qualify for the deduction. The list focuses on occupations where tipping has been customary as of December 31, 2024.
Qualifying professions include:
- Restaurant servers, bartenders, and hosts
- Hair stylists, barbers, and nail technicians
- Hotel housekeepers and bellhops
- Taxi and rideshare drivers
- Food delivery workers
- Casino dealers and attendants
- Tour guides and cruise ship staff
- Massage therapists and spa workers
"This is the largest tax cut for service workers in American history. A bartender earning $50,000 in tips could save $5,000 or more in federal taxes."
— Treasury Secretary Scott Bessent
The Fine Print
Several important limitations apply that workers should understand:
Mandatory gratuities don't count. The automatic 18-20% service charges that restaurants often add to large party bills are not eligible for the deduction. Only voluntary tips left by customers qualify.
Payroll taxes still apply. While the provision eliminates federal income tax on qualifying tips, Social Security and Medicare taxes (FICA) are still owed. This means workers will still pay 7.65% on their tip income.
State taxes vary. The federal deduction doesn't automatically apply to state income taxes. Some states have enacted parallel legislation, while others have not.
Documentation matters. Tips must be reported on Form W-2 or Form 1099 to qualify. Workers should ensure they're accurately tracking and reporting their tip income.
Who Benefits Most—and Who Doesn't
The deduction provides the greatest benefit to middle-income tipped workers in higher tax brackets. A server earning $75,000 annually (including tips) in the 22% federal bracket could save approximately $5,500 per year.
However, the benefit is more limited for lower-income workers who may already pay little or no federal income tax due to the standard deduction and tax credits.
"Low-income households do not benefit from no tax on tips because they already don't pay federal income tax," explained Howard Gleckman, senior fellow at the Tax Policy Center. "This is fundamentally a middle-class tax cut for service workers."
The nonpartisan Joint Committee on Taxation estimates the provision will cost $32 billion over ten years and benefit approximately 6 million workers who report tipped wages.
How to Claim the Deduction
Workers can claim the tip deduction when filing their 2025 tax returns (due April 15, 2026). The IRS is expected to release updated Form 1040 instructions and a new schedule specifically for calculating the tip income deduction.
For the current tax year, workers should:
- Keep accurate records of all tips received
- Ensure employers are properly reporting tips on W-2 forms
- Track tips separately from regular wages
- Consider adjusting W-4 withholding to reflect the anticipated tax savings
The Broader Impact
Industry groups have largely celebrated the new law, though some economists worry about unintended consequences. Critics argue the provision could encourage employers to shift compensation from wages to tip-dependent structures, potentially creating instability for workers.
There are also concerns about enforcement. The IRS has historically struggled to verify tip income, and the new deduction could incentivize over-reporting of tips to maximize tax benefits.
Despite these concerns, the provision represents a significant win for millions of American service workers. For a full-time bartender or server, the annual tax savings could easily cover a month's rent or a year's worth of groceries—a meaningful boost as the cost of living remains elevated.
