Taxation —Who Qualifies for this New Tax Benefit to Deduct Tips?

In September 2025, the Department of the Treasury and the IRS issued IR 2025-92, a statement as to the meaning of the new rule provided for in the OBBB 2025 Act (2025 Act) as to how tips will be taxed.

As stated in the guidance, there are now Proposed Regulations that cover 70 separate occupations involving workers that might receive tips and be allowed the new tax benefit of reduced taxes on these tips.

The new rule does not provide that the tips are excluded from taxable income of the recipient taxpayer.  Rather, the new tax allows for qualified taxpayers to claim a deduction for a given amount of tips.

The Government listed in the Treasury Tipped Occupation Code a 3-digit code and description for the positions or occupations that will come within the new rule.  That is, not all tips qualify for the deduction.  Only certain areas are allowed to come within the new rule and gain the tip deduction.

To qualify for this area, the IRS and Treasury have stated that the proposed Regulations hold that the tips must meet the following requirements:

• “Qualified tips must be paid in cash or an equivalent medium, such as check, credit card, debit card, gift card, tangible or intangible tokens that are readily exchangeable for a fixed amount in cash, or another form of electronic settlement or mobile payment application (excluding most digital assets) denominated in cash.

• Qualified tips must be received from customers or, in the case of an employee, through a mandatory or voluntary tip-sharing arrangement, such as a tip pool.

• Qualified tips must be paid voluntarily by the customer and not be subject to negotiation. Qualified tips do not include some service charges. For instance, in the case of a restaurant that imposes an automatic 18% service charge for large parties and distributes that amount to waiters, bussers and kitchen staff; if the charge is added with no option for the customer to disregard or modify it, the amounts distributed to the workers from it are not qualified tips.

• Any amount received for illegal activity, prostitution services, or pornographic activity is not a qualified tip.”  (See Release 2025-92.)

The occupations that come within the 3-digit code noted earlier are contained within eight categories:

• “100s – Beverage and Food Service

• 200s – Entertainment and Events

• 300s – Hospitality and Guest Services

• 400s – Home Services

• 500s – Personal Services

• 600s – Personal Appearance and Wellness

• 700s – Recreation and Instruction

• 800s – Transportation and Delivery” (Release 2025-92.)

Notice that real estate is not in these areas.  Thus, tipping someone to help you locate your new rental property would not fall within the above areas.

Internal Revenue Code, 26 USCA Section 61 (hereinafter referred to as the Code) states that tips are income, unless the taxpayer can exclude them from income via another Code Section or other authorities.  (See Treas. Regs. Section 1.61-2.)

As mentioned at the outset of this Note, the 2025 Act added a provision relative to tips.  Under Section 70201(a) of the new Act of 2025, Code Section 224 was added to the law to provide that qualified individual taxpayers can deduct qualified tips from their taxable income.

However, the deduction is not carte blanche to include all tips from whatever sources in all amounts.  That is, as noted above, only certain areas or categories of workers receiving tips will come within this new rule.  Further, the amount of such deduction under Code Section 224 is limited. As the Proposed Regulations stated: 

“ Specifically, section 224(a) provides for a deduction in an amount equal to the qualified tips received by an individual in a taxable year that are included on statements furnished to the individual pursuant to section 6041(d)(3), section 6041A(e)(3), section 6050W(f)(2), or section 6051(a)(18), or are reported by the taxpayer on Form 4137 (or successor). Section 224(b)(1) limits this deduction to an amount not to exceed $25,000 in a taxable year….” Section 224(b)(1)

There are additional limits to qualify for the tip deduction.  However, the above makes it clear that:

• Not everyone will qualify for this deduction.  

• The tax benefit is a deduction, above line from Gross Income, not an exclusion.

• The amount deduction is limited to only certain categories of work.

• The total deduction is limited to $25,000.

Further, only certain occupations that normally receive tips, such as those listed earlier, will qualify for the deduction.  Code Section 224(d)(1) states:

“Section 224(d)(1) defines “qualified tips” as cash tips received by an individual in an occupation that customarily and regularly received tips on or before December 31, 2024, as provided by the Secretary.”

Taxpayers receiving the tips must receive the tip in cash, be working as an employee for the tips, fit all the above requirements, file a tax return, and meet additional requirements under this Code Section and the new Regulations. 

Another important limit on the deduction is the amount of income the tip recipient earns. If the taxpayer has modified adjusted gross income over $150,000, or $300,000 for joint return filers, the deduction starts to phase out at $100 for each $1000 that exceeds the limits noted.  

The statement that “there is no tax on tips” is obviously subject to many limitations.

By Dr. Mark Lee Levine, Professor, University of Denver