Impact of Proposed Tip Tax Elimination on Workers and Federal Budget

As the presidential race intensifies, both former President Donald Trump and Vice President Kamala Harris are championing the elimination of taxes on tips as a way to appeal to service and hospitality workers. However, the practical benefits of this policy for many tipped workers are questionable, given that a significant portion of them may not benefit from such changes.

Neither Trump, who proposed the idea at a June rally in Las Vegas, nor Harris, who supported the policy in a recent Las Vegas appearance, have outlined detailed plans. The proposals would need Congressional approval, raising several questions about their implementation. Key concerns include the extent of tax relief, mechanisms to prevent misuse, and whether both federal income and payroll taxes would be affected.

Harris’s plan includes a proposal to raise the minimum wage and set an income limit to prevent high-income individuals from exploiting the policy. Her proposal would keep tips subject to payroll taxes. Trump’s idea, on the other hand, is less detailed but reflects similar goals of easing the tax burden on tipped workers.

In response to Trump’s promise, Republican Senator Ted Cruz of Texas introduced the “No Tax on Tips Act,” which would allow workers to deduct tips paid by various methods from their federal income taxes. This bill does not address payroll taxes, which fund Social Security and Medicare and constitute 15.3% of wages, split between employers and employees. Democratic Senators Jacky Rosen and Catherine Cortez Masto, from Nevada—a state with a significant hospitality sector—support this legislation.

Other proposed bills in the House offer varying approaches, from eliminating both federal income and payroll taxes on tips to capping the amount of tip income that could be tax-exempt. In 2023, approximately 4 million people were employed in tipped jobs, including roles such as waiters, bartenders, delivery drivers, and hairdressers. While tipping has become more common in quick-service restaurants, many tipped workers still earn below the federal income tax threshold.

The federal minimum wage for tipped workers is set at $2.13 per hour, though employers must make up the difference to ensure workers earn at least the federal minimum wage of $7.25. Many states have higher minimums for tipped workers, and some have eliminated the lower minimum wage entirely. Tipped workers generally earn less than their non-tipped counterparts, with a typical weekly wage of $538 compared to $1,000.

According to the Budget Lab at Yale University, 37% of tipped workers did not owe federal income taxes in 2022, meaning they would not benefit from a tax elimination on tips. Analysis by One Fair Wage suggests that nearly two-thirds of tipped restaurant workers do not pay federal income taxes and thus would see little advantage from such proposals.

Critics argue that these proposals, while politically appealing, may not effectively address the needs of low- and moderate-income workers. Erica York from the Tax Foundation describes the proposals as “good politics but bad policy,” citing concerns over fairness and complexity. There are also potential unintended consequences, such as employers reducing wages or shifting roles to tipped positions to avoid paying higher fixed wages. Customer resistance to tipping might also affect the overall efficacy of such measures.

The Culinary Workers Union Local 226 in Nevada, which initially expressed skepticism about Trump’s proposal, now supports the idea of eliminating taxes on tips and raising the minimum wage, following the introduction of supportive bills in Congress. Union Secretary-Treasurer Ted Pappageorge has praised Harris for acknowledging the needs of hospitality workers but remained critical of Trump’s earlier stance.

The financial implications of removing taxes on tips are significant. Eliminating federal income taxes on tips alone could reduce federal revenues by at least $107 billion over ten years, according to the Tax Foundation. If both income and payroll taxes were eliminated, the revenue loss could range from $150 billion to $250 billion, as estimated by the Committee for a Responsible Federal Budget.

Overall, while the proposals to eliminate taxes on tips are aimed at benefiting tipped workers, the practical impact may be limited for many, and the broader economic implications could be substantial.