Nov. 12, 2025 – The popular phase “No Tax on Tips” – a proposal that Republicans and Democrats supported in 2024 – isn’t quite so simple once it’s in print in the Internal Revenue Code or on Form 1040.

“There's no tax on some tips, I think is probably the better way to describe it,” said Rob Teuber of von Briesen & Roper, s.c. in Milwaukee.

Congress passed the deduction in the One Big Beautiful Bill Act (Public Law 119-21), codified primarily at 26 U.S.C. section 224, that became law July 4 – effective for this year’s taxes for which returns are due April 15, 2026.

The deduction gets calculated on draft Form 1040 Schedule 1-A, which feeds into draft Form 1040 or Form 1040-SR at Line 13b.

Although this places the deduction in the itemization section, taxpayers don’t need to itemize to use the deduction.

Bills in the Assembly (A.B. 38) and Senate (S.B. 36) would make Wisconsin taxes correspond to federal law, but they haven’t passed yet.

“It sounds like we may end up mostly conforming to this ‘No Tax on Tips’ idea, although that’s not final yet,” said Joseph Rekrut of Reinhart Boerner Van Deuren s.c. in Milwaukee.

Real Uncertainty – Small Deduction

Exacerbating the unanswered questions on this new law, the Internal Revenue Service (IRS) hasn’t completed all anticipated guidance.

The IRS posted draft tax year 2025 forms and announced in the Sept. 22 Federal Register proposed regulations, including examples of how the new law applies – all shortly before the federal government shut down Oct. 1.

The comment period on the Notice of Proposed Rulemaking ended Oct. 22. Regulations.gov reports 16,902 comments received.

From the start of this year, when about 25% of the staff was cut due to the government shutdown, “now only 50% of the IRS is at work” – essential employees, Teuber said.

“There’s some areas here where we’re still waiting for the IRS to give us some clarity,” Rekrut added.

All this uncertainty arises for a temporary deduction good through 2028 that tax experts describe as having a limited effect for most people.

“It’s a big policy point. I’m not sure it’s going to be a big tax point,” Rekrut said.

The net result of the full $25,000 deduction – a reduction in taxable income – is far less than the deduction. It may max out as a benefit of $1,300, Teuber related from what he’s read.

‘Implement … on the Fly’

“Especially in the post-COVID era, with the CARES Act, I would say tax practitioners nowadays are used to having to implement completely new rules on the fly,” Rekrut said.

“I think business owners, lawyers, everyone is really more used to that.”

The IRS promises “transitional relief.” That means a certain leeway and ability for taxpayers to correct good-faith errors without penalties, Rekrut explained.

On Nov. 5, the IRS issued guidance (Notice 2025-62) providing that employers will not be subject to penalties related to implementing portions of the new law for 2025, such as failing to provide separate accounting of tip or overtime amounts, or occupations.

As promised, the IRS noted that “tax year 2025 will be treated as a transition period.” Still, experts wait for guidance on other issues, which the Notice denotes as “forthcoming.”

Other than obvious errors, such as not listing a Social Security number (SSN) or a married couple attempting to get a deduction on $50,000 in tips – easy flags in tax return processing – we won’t know what goes wrong until the IRS conducts audits for 2025 tax year returns in a few years, Teuber said.

“The consequences of doing it wrong will be learned in the future, and how many different ways people get it wrong will be learned in the future,” Teuber said.

Employer Reporting Challenges for 2025

Recordkeeping creates the principal problems employers face. No one in January was planning to track tips based on the deduction.

The Form W-2s that employers send out in January reporting taxable income won’t change for the new tip deduction.

The IRS has released proposed Form W-2s, effective for 2026, that will identify amounts for tips and overtime eligible for deductions in box 12 with letter codes.

Payroll services that most employers use move quickly to update their systems, and these tips were already reportable taxable income, Rekrut said. “I don’t know that … much has changed.”

It’s not unusual for restaurants to require employees to report tips for tax purposes. It’s easier now because many tips come from credit card transactions.

But one wrinkle in the definition of tips eligible for the deduction hasn’t been planned for. Automatic gratuities, such as for large parties, are excluded.

“How do you adequately keep a record to show that it was a mandatory gratuity versus not?” Teuber asks. “That’s going to be something payroll companies and reporting staff have to figure out. It’s going to be a problem here in 2025 because nobody’s set up for this now.”

Employee Surprises

“The traps for the everyday person are things that most lawyers can probably glean just by reviewing the rules, but typical employees won’t be reading the new law,” Rekrut said. He and Teuber have similar lists of popular misconceptions.

Report the tips. Because it’s a deduction, it “offsets the income tax you would otherwise be paying on a certain amount of your tips,” Rekrut explained. To get the deduction, the taxpayer is going to have to report the tips.

“It’s not tax-free, and you still have to report it,” Rekrut said.

“If I’ve picked up, you know, a $20 bill cash off the table that I received and shoved it in my pocket and didn’t tell the employer about it,” Teuber said, “I’m not getting a deduction for that.”

Are you in “an occupation which customarily … received tips”? The deduction applies to employees in businesses that customarily receive tips. The IRS’s proposed regulations list about 70 types of businesses.

At the same time, the deduction does not apply to establishments in “a specified service trade or business” as defined in 26 U.S.C. section 199A(d)(2). One wouldn’t expect to tip an architect, accountant, doctor, or lawyer.

“It’s designed to make sure that people who don’t traditionally receive tips don’t start converting their revenue streams into ‘tips,’” Teuber explained.

“But here’s a nuance that can arise in the context of these specified trades or businesses,” Teuber said. Those types of businesses can hire people who would have received the deduction if they worked on their own or for another employer.

For example, a massage therapist is eligible for the tips deduction, but that changes if a health provider hires the therapist.

“Now their tips, it appears, are no longer eligible for the deduction because they are an employee of a specified trade or business,” Teuber said. This massage therapist can’t claim the deduction.

Are tips “paid voluntarily” without negotiation? The statute defines tips as voluntary, which would eliminate mandatory gratuities for a large party at a restaurant – something that Rekrut says may be misleading based on how the deduction has been described.

Perhaps if the customer could opt out of such gratuities, they could become tips eligible for deduction, Teuber said. “Someone was musing about that as a possibility.”

“If I’m the government, I’m probably saying, ‘Nice try.’”

The possibility remains for Teuber “an open question in my mind.”

Are tips in “cash”? The tips have to be in a medium resembling dollars – cash, credit card, or Venmo. It couldn’t be in Bitcoin, advised Teuber. Nor could it be a concert ticket from a grateful patron.

You need a Social Security number (SSN). The person claiming the deduction needs to use an SSN on the return.

Teuber imagined a married couple, one with an SSN and the other isn’t a citizen. If the person with the SSN receives tips, he or she can claim the deduction. If the other spouse with only a Taxpayer Identification Number (TIN) on the return earned the tips, he or she couldn’t.

“It seems consistent … with the administration’s mindset, but it’s also just what is in the law,” Teuber said.

The tips are taxed in other ways. “There’s still payroll taxes on these tipped amounts, so when we say no tax, it’s no income tax,” Rekrut explained.

“A lot of people never distinguish between income taxes and their FICA taxes when they look at their paycheck,” Teuber said, referencing Social Security and Medicare taxes.

The tips are also subject to unemployment taxes, designated as FUTA.

“So as a waiter, when I’m receiving $25,000 in tips, that’s still going to be subject to Social Security and Medicare tax,” Teuber said. The direct impact comes with the withholding of 7.65% of income, including from tips.

There’s a “marriage penalty.” Both Rekrut and Teuber detected a “marriage penalty” –married couples face limits not experienced by single filers.

In one tax year, a return can claim at most $25,000 in tips for the deduction, and married couples can claim the deduction only by filing jointly.

This penalty might not be self-evident because the gradual phase-out of the deduction begins at modified adjusted gross income of $150,000 for individuals and $300,000 for married filers.

“There’s no marriage penalty in the phase out of the deduction,” Teuber points out. “And that language would make you think that both spouses could claim the $25,000.”

At most, a couple, earning a total of $50,000 in tips, may claim a deduction for only $25,000 of those, Teuber said.

“I think that’s something that a lot of people will probably not understand until they go into TurboTax next year and are trying to figure out why their collective $35,000 worth of tip income in their marriage is not all allowed,” Rekrut said.

The refund received in 2026 may be more than in 2027. The IRS won’t be releasing new withholding tables for tax year 2025, Teuber said. Those tables indicate how much an employer will withhold for taxes based on an employee’s choices on the Form W-4.

“This year, 2025, I don’t think anyone is going to be withholding differently at all,” Teuber explained. “No employers or payroll companies are going to change how they’re doing it on wages through the end of this year because they don’t know enough yet.”

Without new withholding tables, employees could receive a bigger tax refund from the additional deduction for 2025 income, Teuber said.

New tables, however, will adjust for the effect, Teuber said, which could mean smaller refunds starting in tax year 2026, received in 2027, but “more money in their pocket during the course of the year.”

For the maximum deduction that may be “$100 extra a month, under this circumstance,” Teuber calculated. “It’s great, but the impact may not be all that much.”

76th Annual Tax School 2025

Federal reform, new agency guidance, and state-level changes are making the 2025 tax year feel like a pop quiz in constant motion. The 76th Annual Tax School, Dec. 4 at the Ingleside Hotel in Pewaukee, puts the pros at the head of the class to walk you through what’s changed, why it matters, and how to prepare your clients for the year ahead.

Hear directly from the IRS Office of Chief Counsel on best practices for Tax Court litigation and close out the day with insights from the Wisconsin Department of Revenue (DOR). Along the way, you’ll receive practical analysis and guidance that you can immediately put to work for your clients.

You’ll explore:

• New provisions from the One Big Beautiful Bill Act and their impact on individuals and businesses.
• Key federal tax cases and agency guidance issued in 2025.
• Timely practice and ethics issues from both the IRS and DOR.
• How to guide clients through discovery, trial, and appeals in the U.S. Tax Court.
• State-specific updates impacting Wisconsin clients.

Study up on tax reform, new rulings, and regulatory shifts at the 76th Annual Tax School.