This is the year, my friends! Starting with the 2025 tax year, the first $25,000 you earn in tips are not subject to income taxes (for some people.)

Today, we’re going to talk about the ins and outs of this new policy. It’s exciting for some, disappointing for others. You want to make sure you manage your expectations appropriately.

What does ‘tax-free tips’ mean?

‘Tax-free tips’ does not mean you’ll pay zero taxes on your tip income. You’ll still have to report your tips in their entirety — which I know you’ve been doing every other tax year, anyways…right? 😉

FICA Taxes

A big reason you need to report your tips is that you will still have to pay FICA taxes on this income. FICA taxes are taxes that go towards Social Security and Medicare.

Believe it or not, this is a good thing for you — the higher your recorded Social Security income (and taxes) are throughout your working life, the more Social Security income you’ll qualify for in retirement age.

Income Taxes

This is where the good news lives. For many people, the first $25,000 in tips reported on your federal tax return will not count towards your income taxes. This is achieved through a deduction on your 1040.

Deductions like these reduce your taxable income, which in turn lowers how much tax you owe to the IRS.

Does the tax-free tip policy help me?

There is a bit of bad news. If your tax owed is already $0, the deduction isn’t going to do much for you. This is a situation that applies to many low-income tax payers, and means this isn’t really a policy that’s looking out for the little guy.

Yale’s Budget Lab reports that 37% of tipped workers fall into this category.

Does the tax-free tip policy hurt me?

A big concern was matriculating that the no-tips-on-taxes policy could actually hurt some tipped workers who qualify for certain refundable tax credits. Here, we have some good news.

EITC

The Earned Income Tax Credit (EITC) is a refundable tax credit that operates on a bell curve. The more money you earn, the more money you get back — until you hit a certain point where the credit starts tapering off.

In this way, the EITC is a subsidy on the minimum wage. (Which — let’s be real — you might not be getting paid if you’re a tipped worker.)

So, the fear was that if tipped workers deducted tips from their income, would that lower their income enough to put them further back on the EITC bell curve? And therefore get a smaller credit?

The IRS is saying no. You can deduct your tips from your income to calculate your tax burden, but your EITC credit will still be based on your total earned income — including deducted tips.

Child Tax Credit

Similarly, the Child Tax Credit pulls from your income on line 11a of your 1040. This is your earned income before you subtract your tip deduction on line 13b, and therefore shouldn’t affect your Child Tax Credit.

Perhaps more importantly, it shouldn’t affect your Additional Child Tax Credit. This is important because the Additional Child Tax Credit is the portion that’s refundable.

When do tax-free tips kick in?

(Income-) tax-free tips kick in for the 2025 tax year. To be clear, you can exclude the first $25,000 in tips on the 1040 you file in early 2026. That 1040 is for the 2025 tax year.

Are tax-free tips permanent?

No, tax-free tips are not permanent. They only apply to tax years 2025 through 2028. That means the last tax return where you can claim this deduction will be the one you file in early 2029.

Keep an eye on this space, though. Future tax laws could make this provision permanent — or at least extend it. It’s also possible that it could expire, though, which is the default with the way the law is currently written.

What are the income limitations for tax-free tips?

This tax deduction starts to phase out when your Modified-Adjusted Gross Income (MAGI) hits $150,000. If you’re married filing jointly, it starts phasing out at a MAGI of $300,000.

Does my job qualify for tax-free tips?

Just because your boss programs the Square terminal to shake down customers for extra cash does not automatically mean you qualify for the no-tax-on-tips deduction. This deduction is restricted to jobs that ‘customarily’ received tips as of December 31, 2024.

And the list is delineated. You can’t argue with it.

Are you a waiter?

You qualify.

Have a side hustle as a wedding officiant?

You’re in, too.

You can find the entire, comprehensive list of qualified occupations here.

If you’re not on it, you don’t qualify.

Overall verdict

This policy is better than some feared, and worse than others hoped. It applies to a narrow portion of the American population, but for those who it does serve, it can be a way to save money on your taxes.