New Federal Deduction Allows Eligible Tipped Workers to Exclude Qualifying Tips From Taxable Income
A new federal tax deduction allowing eligible tipped workers to deduct qualified tip income from their federal taxable income is now being implemented following legislation signed into law in July 2025.
The provision was included in the One Big Beautiful Bill Act, signed into law on July 4, 2025. The measure created a temporary federal income-tax deduction for qualifying tips received by workers in occupations where tipping is customary.
HOW THE POLICY WORKS
Under the new rules, eligible employees and self-employed workers can deduct qualified tips when calculating their federal income-tax liability.
The deduction is capped at $25,000 per tax year and is subject to income limitations. For 2026, the deduction begins to phase out for taxpayers with modified adjusted gross income above $150,000, or $300,000 for married couples filing jointly.
The policy applies to qualifying cash tips received in occupations that customarily and regularly received tips before the end of 2024. Mandatory service charges are not treated as qualified tips under the rules.
The deduction does not mean that eligible workers can stop reporting their tips. The IRS continues to require tip income to be reported, while the new provision allows qualifying amounts to be deducted when calculating federal income tax.
POTENTIAL IMPACT ON SERVICE WORKERS
The measure is particularly relevant to workers in industries such as food service, hospitality, transportation, personal services and other occupations where tipping is customary.
Supporters of the policy argue that the deduction can allow eligible workers to retain more of their earnings after federal income taxes.
The policy is part of a broader package of tax changes introduced under the Trump administration, including a separate deduction for certain qualified overtime compensation.
IMPLEMENTATION CONTINUES
The Internal Revenue Service has issued guidance to taxpayers and employers on how the new deduction applies. For 2025, the transition to the new reporting requirements created additional administrative steps, while updated reporting procedures are being used for 2026.
The deduction is currently scheduled to apply to qualifying tips for tax years beginning after December 31, 2024, and before January 1, 2029.
As implementation continues, eligible workers will be able to claim the deduction when filing their federal tax returns, subject to the applicable income, occupation and reporting requirements.
The policy represents one of the Trump administration’s key tax changes affecting workers whose income includes tips, while its longer-term impact will depend on how many workers qualify and how the deduction affects their federal tax liabilities.
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