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We found that presidential candidates Kamala Harris and Donald Trump agree on one thing: tips should no longer be subject to federal income tax. But this seemingly worker-friendly change (which would likely require congressional approval) could have serious unintended consequences.
First, the Committee for a Responsible Federal Budget (a non-partisan non-profit organization) reports that Harris’ plan could increase the federal budget deficit by $100 billion to $200 billion over the next decade. Trump’s plan fares even worse, the organization estimates, and would increase the deficit by $150 billion to $250 billion over the next decade. Taxes and fees are often like whack-a-mole: when one falls, another pops up.
Americans are tired of tipping
I fear these plans could make American workers even more dependent on tips—at a time when many customers are fed up with the practice. According to a recent survey by Bankrate, about 6 in 10 U.S. adults (59 percent) have at least a negative attitude toward tipping. That includes 37 percent who think companies should pay their employees better instead of relying so heavily on tips, 35 percent who believe tipping culture is out of control, and 34 percent who resent pre-entered tip screens (which have become common in coffee shops, food trucks, and elsewhere).
Eliminating the tip tax could make the situation worse. It certainly won’t encourage companies to pay their employees more money. In fact, it’s easy to imagine employers classifying more employees as “tip earners” under the guise of a “no tip tax” policy. This is potentially a tricky situation, since the federal minimum wage for tip earners is just $2.13 per hour (unchanged since 1991).
Some communities have higher minimum wages for tipped workers, but it’s becoming increasingly difficult to make a living from tips. While there was a brief outpouring of support for service sector workers in 2020 amid the COVID-19 pandemic, Americans have been much less likely to tip in the years since.
- In 2021, for example, 75 percent of restaurant guests always tipped. Now that number is 67 percent.
- 63 percent always tipped their hairdresser in 2021. This proportion has dropped to 55 percent.
- In 2021, 59 percent always tipped for food deliveries, compared to just 51 percent today.
- 48 percent always tipped their taxi/rideshare drivers in 2021, compared to just 41 percent currently.
The differences are particularly stark between generations. Only 35 percent of Gen Z (ages 18-27) who eat in restaurants with full service always tip. Among Millennials (ages 28-43), this figure rises to a still-low 56 percent. Tipping is more common among Gen X (78 percent of these 44-59 year olds always tip in restaurants with full service) and Baby Boomers (ages 60-78; 86 percent always tip in restaurants with full service). Since young adults in particular tip so rarely, it would be better for working-class workers to rely less on tips.
Could the rich benefit from this?
Highly paid professionals might try to take advantage of tax-free tips. Could an executive’s multimillion-dollar bonus be classified as a tip to avoid federal taxes? To that extent, it could significantly increase the budget deficit and would not help the workers this idea is supposed to support. Vice President Harris has indicated that she wants income limits on tax-free tips; former President Trump’s plan is less clear.
In addition, many employees who receive tips do not pay taxes anyway
Cash tips are notoriously underestimated, although the increasing use of credit and debit cards gives the IRS more paper trails. Even then, “37 percent of tipped workers had incomes so low that they would not have to pay federal income tax in 2022, even without accounting for tax credits,” according to the Yale Budget Lab.
Working without a safety net
Employees and independent contractors who rely heavily on tips are at the mercy of their customers’ whims. When business is slow or customers are stingy, their income suffers. And these types of workers are less likely to be eligible for paid vacation, health insurance benefits, 401(k) matches and other perks. Take gig workers, for example. While it sounds nice to be your own boss and set your own hours, the lack of a safety net also comes with certain risks.
The conclusion
Repealing the federal tax on tips is a provocative campaign issue—it’s no coincidence that both candidates introduced their ideas in tourist-heavy Nevada—but it lacks substance. To truly improve workers’ lives, politicians should focus on increasing wages and benefits rather than reinforcing a tipping culture that’s already fallen out of favor.
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