Evaluating the No Tax on Tips Policy

It is an odd time in American politics when we see both presidential candidates agree on anything, let alone tax policy. Both Donald Trump and Kamala Harris have come out in favor of the “No Tax on Tips”, but what does that actually mean? Are the two candidates in agreement on what the policy is, or are they using the same four words with entirely different meanings?

The short answer to the questions above is that we do not know. Neither candidate has presented a fully fleshed-out policy, nor have they even said which of the four current bills in Congress they support. As someone who has spent decades working in and with bars and restaurants, I find this to be wholly unacceptable. 

We have a right to know what we are voting for, and the politicians trying to win our vote have a responsibility to provide us with concrete policies so that we can understand how their administrations would affect our industry. Both Harris and Trump owe the hospitality industry an explanation of what they mean when they say “No tax on tips”. 

After pondering this question for weeks, doing extensive research, and focusing in on the potential meanings of “no tax on tips”, I have concluded that what seems like something great for the industry on the surface, could lead to massive closures of small restaurants and bars, difficulties for our teams, and further inflation for the public through menu price increases. 

Whether the outcome of any “no tax on tips” policy is positive for bars and restaurants depends on the actual policy that the candidates are proposing. They owe it to us to come out and make a more direct statement so that we can understand the future of our industry. 

What do we know about the candidates’ positions?

While the candidates have released little regarding their policy positions, there has been some information that has been released or leaked about the candidates’ positions. 

Kamala Harris

There are indications that: “Harris would exempt tips from income tax but not payroll taxes—the contributions that people make to Social Security and Medicare. Her proposal would allow workers in the service and hospitality industries with income below $75,000 to claim exemptions up to a (currently unspecified) capped amount”, according to this  Brookings Institution article. 

However, the source for that analysis is a Washington Post article that claims that information came from “three people familiar with the campaign’s thinking, who spoke on the condition of anonymity to discuss private conversations”. That is not a policy position. It is just what some folks in the campaign are thinking. 

Axios noted in an article from August: “An official from the Harris campaign said the policy would include ‘strict requirements to prevent hedge fund managers and lawyers from structuring their compensation in ways to try to take advantage of the policy’”.

Donald Trump

The same Brookings Institution article as quoted above, stated that there are “scant details” about Donald Trump’s plan. The Trump campaign website lists “large tax cuts for workers, and no tax on tips!” as their sixth policy point. The bottom of the site links to the Republican Party Platform, which states the following: “We will eliminate Taxes on Tips for millions of Restaurant and Hospitality Workers, and pursue additional Tax Cuts”. I was unable to find anything further on Trump’s exact policy.  

What are the potential issues with No Tax on Tips?

Potential Issues for Employees

Employees may or may not be hurt by the No Tax on Tips policy, it will depend entirely on how the bills get written, or which of the currently proposed bills get endorsed. However, there are a few potential policies for employees that could greatly hurt their future and financial health. 

First among these is whether or not the exemption of tax on tips would include FICA taxes (Social Security and Medicare/Medicaid) and unemployment tax. If tips are not subject to FICA and unemployment taxes, both of those benefits for tipped employees could be reduced. By not paying in as much, they are not granted the same benefits, as they would be if their tips were taxed. 

Second, if an employee’s tips are not included in their adjusted gross income on their 1040 tax filing, it could severely limit their ability to get loans, since many loans base a persons earnings on their adjusted gross income. This would make it harder for servers and bartenders to get a college education, buy a new car, or even get a mortgage. For many restaurant and bar employees who are already struggling, the lack of access to capital could cause a significant decrease in their standard of living.

Third, it could lead to wage deflation. We have seen wage growth since coming out of the pandemic, with many restauranteurs paying above minimum wage in order to attract the best talent. However, eliminating the employer side of payroll taxes (FICA) could lead to employers wanting to push tips more and lowering wages.

Fourth, it could create animosity between tipped and non-tipped employees. If a no tax on tips bill were to pass, for many businesses, it would only affect a portion of a bar or restaurant’s staff, widening the earningsdisparity between front- and back-of-house.  

Potential Issues for Employers

Just as for employees, there are many potential issues with any no tax on tips bills for employers. With the food and beverage industry hardly recovered from COVID and inflation, any additional hardship on the operators of independent bars and restaurants could lead to a rash of closures. 

While chains should be able to weather any change, the majority of bars and restaurants in the USA, over 450,000, are independent. These are the businesses that drive communities, provide first jobs in rural and blighted areas, and employ millions of people. A collapse of independent operators in the hospitality industry would have far-reaching economic effects that could even destabilize a weaker economy. 

There are many potential impacts on employers. First, if a no tax on tips policy were enacted that negatively affected front-of-house employees, our already difficult labor market could get much worse with fewer people, especially industry veterans, moving to other industries. With the number of people who have already moved out of the industry in the post-COVID world, it would be impossible for many employers to survive an even more challenging labor market. 

Second, if FICA taxes are not charged on tips, that would mean a repeal of the FICA tip credit for employers (Sec. 45b Credit). For many independent operators that credit is a key part of their livelihoods. They rely on it to help them support their families and children. 

Third, some of the bills that have been proposed call for an elimination of the tipped minimum wage. This would cause an over 300% increase in the front-of-house hourly labor for some employers and an increase in front-of-house labor for bars and restaurants in 43 states. With inflation already pushing prices to the limits in many areas, bars and restaurants may not be able to raise prices enough to account for this change in labor cost.    

Potential Issues for the Citizens

Regardless of the exact policy, not taxing tips will cause a decrease in federal 10-year revenue. According to the Tax Foundation, just eliminating income taxes on tips will cause a 118-billion-dollar revenue decrease. When payroll taxes (FICA) are factored in the decrease in revenue could be as high as 200-billion-dollars, based on a Committee for a Responsible Federal Budget report. Assuming that the government didn’t decrease their budget in turn, this would add to the current budget deficit. 

What has been proposed?

While neither Harris nor Trump have given us a clear indicator of what their specific “no tax on tips” policy would be, there have been four bills proposed in Congress. While I am by no means a tax lawyer, and my understanding is somewhat limited, I will try to give a solid breakdown of those four proposals. 

No Tax on Tips Act – S.4621

The bipartisan No Tax on Tips Act is a bipartisan bill introduced by Sen. Ted Cruz (R-TX). The same bill was introduced in the House, H.R.8941 by Rep. Byron Donalds (R-FL), where it also has received bipartisan support. This bill is “to amend the Internal Revenue Code of 1986 to eliminate the application of the income tax on cash tips through a deduction allowed to all individual taxpayers”. 

This bill simply calls for a below-the-line deduction for “cash tips” that is not subject to the overall deduction limitation and which would not be treated as a miscellaneous itemized deduction. This deduction would also be allowed for non-itemizers. Most importantly, it does not negatively impact employee AGI, therefore it does not negatively impact team members’ ability to get loans. It maintains FICA taxes on tips, ensuring employees continue to pay into social security and unemployment, without affecting the employer’s FICA tip credit. 

The National Restaurant Association (NRA) has come out in favor of this bill, and it appears that all of the potential issues with a “no tax on tips bill” have been avoided. This bill does not appear, in my opinion, like it would have a negative impact on bars and restaurants or their team members. The NRA states: “For the tipped workers that pay taxes, this proposal would help boost their take-home pay. There are more than 2 million tipped restaurant servers and bartenders who are critical to the success restaurant industry.” 

Andrew Leahey, in a Forbes article, noted: “ The Act would provide relief to service industry workers. Cash tips form a significant portion of total income for many in the hospitality and service sectors—by allowing these workers to deduct their cash tips in their entirety, the Act would increase their disposable income and could potentially improve their financial stability.”

 Tax Free Tips Act of 2024 – H.R.8785

The Republican Tax Free Tips Act of 2024 was introduced to the House by Rep. Thomas Massie (R-KY).  It seeks “to amend the Internal Revenue Code of 1986 to provide that tips shall not be subject to income or employment taxes”.

The bill reclassifies all tips from income to gifts, under Section 102 of the IRS code. This would include removing tips from both Social Security and unemployment taxes, eliminating the Sec 42b (FICA) credit for employers, and remove tips from “wages”. This bill has the potential to create many of the potential issues noted above. 

Tip Tax Termination Act – H.R.7870

The Democrat Tip Tax Termination Act was introduced by Rep. Don Bacon (D-NE). This bill would exclude from gross income up to $20,000 in tips for tipped employees until 2028. While there is verbiage in the bill to ensure the bill does not impact the Child Tax Credit or the Earned Income Credit, it would reduce income subject to unemployment and social security taxes. Presumably, that would reduce the FICA tip credit for employers as well. Unlike the two bills above, this bill does not appear to have the same level of support, as it lacks co-sponsors. 

Tipped Income Protections and Support (TIPS) Act –  H.R.9624

Note: At the time of writing this post, the text of the bill was not available through congress.gov. However, the text of the bill was available through an article in the Nevada Independent. 

The Democratic TIPS Act was introduced by Rep. Steven Hordsford (D-NV). It is the longest of the no tax on tips bills. It calls first for the repeal of the minimum wage for tipped employees in the Fair Labor Standards Act.  From there it appears to be largely the same as the No Tax on Tips Act, with the addition of a limit to the tip deduction of $112,500. 

What does the industry currently think about No Tax on Tips?

As I wrote this analysis, I used social media to understand what the industry was currently thinking. I posted to my Facebook group, LinkedIn, and on Reddit. 

It appears the industry is split on the issue. And more than a few people expressed that they didn’t know what “No Tax on Tips” would mean for the industry. Interestingly, one-hundred-percent of the accounting or tax professionals that responded are not in favor of the idea. 

Many owners expressed that they thought the whole idea was merely political pandering, and that it would never happen. Here are quotes from the five most upvoted comments I received on Reddit:

• “… on the surface, it makes as much sense as saying everyone else needs to take on dentists’ share of the tax burden…”
• “Terrible idea and zero chance of happening”
• “At this point, I am just assuming that this is campaign fodder being used by both sides to pad votes, but that none of them will actually pass once the election is over.”
• “I’m against it. Most bartenders and servers I know only had any retirement through social security and this is eliminating that.”
• “I don’t support no tax on tips. Tips are income. It would cause a riot if a bartender doesn’t have to pay tax on their tips averaging $30/hr, but the cook has to pay tax on his $30/hr.” 

What was most apparent to me in talking with owners and others in the industry about this policy position, is that most are worried about the potential downsides for thier team and themselves. No one knows exactly what to think. 

Final Thoughts

As an industry, we are owed an answer. Pandering for votes is something that our politicians get away. Both Kamala Harris and Donald Trump have the responsibility to tell the industry what exactly they mean by “No Tax on Tips”. 

Personally, I am not in favor of any of the bills. They all have the potential to create as many issues as they solve. In my opinion, The No Tax On Tips Act (S.4621) would be the best for the industry if this policy were to be enacted. I think the other bills would cause much more harm to the industry than good. 

The bar and restaurant industry is already in a precarious position ddue to COVID and Inflation, especially for the independent operators in rural or blighted communities. We need these businesses to be successful for the strength of our communities and the overall economy. 

We need to hold our politicians accountable for their ideas, do everything we can to make sure they are aware of the potential issues, and attempt to prevent them from doing the industry and economy harm.  

***Reminder: I am not an attorney or accountant, this is not legal or business advice. It is just my thoughts based on publicly available information.