Final Rules Issued For “No Tax On Tips” Provision Of One Big Beautiful Bill Act
The Internal Revenue Service and U.S. Department of the Treasury published this week the final regulation governing the temporary tax deduction for tips included in the federal budget bill passed on July 4, 2025 (the “one Big Beautiful Bill Act” (OBBBA)). The regulation becomes effective on June 12, 2026 and applies to the taxable years of 2025 through 2028.
The OBBBA provided, in part, a temporary federal income tax deduction for a portion of an eligible worker’s qualified tips. The deduction applies only to federal income tax; tips are still subject to Social Security, Medicare, and state/local taxes. The regulation issued this week clarifies several important rules for applying the deduction.
First, the deduction is available only for tips earned in a “traditionally and customarily tipped” industry. The regulation gives us the official and final list of occupations that qualify for the deduction and is an expansion and clarification from an earlier list. For example, “banquet staff” have been added to the “wait staff” category, and the category of “Food Servers, Non-Restaurant” has been changed to “Food and Beverage Servers, Non-Restaurant.” New categories, such as “Visual Artists” and “Gas Pump Attendants,” have also been added.
Second, to be eligible for the deduction, tips must be voluntary, “without any consequence in the event of nonpayment,” and not “the subject of negotiation.” As we already know, automatic gratuities and service charges do not qualify for the deduction. The regulation clarifies that customers must have the option to reduce a tip to zero and/or leave no tip. Thus, tip selection methods, such as POS systems with a tip slider that goes to zero or an option for the customer to select “other” and input zero, are acceptable and render a tip “voluntary.” The regulation also clarifies that “situations where nonpayment of a tip is without consequence include situations where nonpayment of the tip does not have any impact on the scope or cost of the service.”
Finally, tips must be “cash tips” received from customers or through a tip pool in “a cash medium of exchange, including by cash, check, credit card, debit card, gift card, tangible or intangible tokes that are readily exchangeable for a fixed amount in cash (such as casino chips), and any other form of electronic settlement or mobile payment application that is denominated in cash.” The final regulation maintains this definition but clarifies that “cash tips” also include amounts paid in foreign currency.
Because “[t]axpayers wishing to claim the deduction and entities responsible for information reporting [i.e., employers] are primarily responsible for ensuring their occupation is on the List of Occupations that Receive Tips,” we encourage employers who may have tipped employees to carefully review the regulation especially its list of qualified occupations. If you have questions about the application of the tax deduction on your employees, please consult with a KZA attorney.
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