Analyzing the Impact of Trump's Elimination of Tax on Tips: Pros and Cons

As of January 29th, President Trump implemented a policy aimed at eliminating a federal tax on tips. This proposal has sparked significant debate amongst workers. The hospitality industry is vital to the local economy of Las Vegas, comprising 27% of the workforce in the city. Despite the large number of hospitality workers who could potentially benefit from a policy like this, seeing it as a long-overdue relief for service workers, critics are concerned about unintended consequences that could reshape the industry and harm workers. So, will the law truly benefit or work against them?

According to the IRS, if a hospitality service employee earns more than $20 a month, their tip income must be reported to their employer, where the tax is then taken appropriately from their check. The taxes taken are regularly, the Federal Income Tax, FICA (Social Security/Medicare) taxes (which add up to about 7.65%), employer withholding, and in some cases, state income tax. If these tips are not reported to the employer, it can result in IRS penalties if audited.

Realistically, how would this affect the pay of an average food service worker making 10 dollars an hour? Well, if the employee averages $150 in tips per shift and works 8 hours, they would earn a total of $230. Based on a lower income tax bracket, assume the individual pays 12% for their Federal Income Tax. 12% of 230 is $27.60 deducted from their paycheck. Additionally, they still have to pay the FICA tax (7.65%), which subtracts another $17.60. After all taxes, assuming that the employer does not also deduct a percentage, the employee would take home $185 post-shift. This makes their annual income ~$44,160 but without the tax on tips, their income would be $55,200, ultimately meaning that the worker is losing $11,000 because of the taxes.

Losing this $11,000 is a major financial hit for low-income workers. For a higher-income earner, a 10% taxation might be an inconvenience, but for a minimum-wage employee, that amount of money lost can take away the ability to afford rent, healthcare, or even basic necessities. In Las Vegas, where rent for a one-bedroom averages $1,400, the $11,000 lost to tip taxes could cover nearly eight months of housing. Many service jobs lack benefits, making healthcare costs a burden, this money could pay for insurance, dental care, or medical emergencies. Low-income workers often face high-interest debt and little savings, forcing them into financial instability.

Eliminating tip taxes would increase take-home pay for service workers and motivate them to spend more locally, stimulating the economy. Higher net earnings might also attract more people to the hospitality industry, helping with labor shortages. Politically, this policy could gain strong public support, especially in states and cities reliant on tourism, like Las Vegas. Finally, it would simplify tax filing for tipped employees, reducing paperwork and audit risks.

However, according to critics, the elimination of this tax does not come without a few economic consequences...

The reduction of these taxes would reduce federal revenue, which could potentially lead to cuts in public services, or other budgeting. How much of a difference does this tax make really? Well, the tipped economy does make billions per year contributing about 25 billion in taxable income annually. However, when observed on a bigger scale, the total federal revenue in 2023 was $4.4 trillion, so the contribution of tip taxes seems minuscule. If all tips were fully taxed, the real impact on federal revenue would equate to 0.5% The probability of this small percentage making a large enough impact to deduct funding from essential services that the government provides is unlikely.

Additionally, the argument is made that the reduction of taxes on tips would give employers an incentive to lower wages. Tipped workers, who are already in some cases paid below the federal minimum wage (tipped minimum wage as low as $2.13 in some states) could face even lower wages. This would reinforce a dependence on tips which is a very unreliable form of compensation. Tips are subject to variability, depending on a customer's generosity, the business's prices and popularity, certain hours worked, seasonal changes, and many more variables. Ultimately, this approach perpetuates a system of income inequality in which tipped employees are forced to depend on the whims of customers and employer goodwill, rather than receiving a stable, reliable wage that guarantees their financial security.

While the President's proposal to eliminate the federal tax on tips could very possibly provide significant financial relief for underpaid and low income workers, it could also perpetuate income inequality. The impact of this policy hinges on finding a balance between supporting low-wage workers and maintaining a stable tax system that funds essential services. As this debate continues to unfold, it will be important for policymakers to consider all these factors carefully, ensuring that any changes made truly benefit the workers who need it most without causing unintended harm.