Reduced Taxes on Earnings from Tips and Overtime: Discover Possible Reductions in Your Tax Burden
President Donald Trump has signed a tax bill into law, effective from July 4, 202x, that brings significant changes to the federal income tax structure for workers earning tips and overtime pay. The new law offers relief to service industry workers and hourly employees, primarily those in the tipped sector, by exempting a portion of these incomes from federal taxation.
Qualified tips up to $25,000 are now exempt from federal income tax, providing a substantial tax break for eligible workers. This means that workers who earn tips will not have to pay federal income taxes on tip income up to this limit. Similarly, overtime pay is also deductible up to $12,500 for single filers or $25,000 for joint filers, with these deductions phasing out for individuals earning more than $150,000 (or $300,000 for joint filers).
These provisions apply only to federal income taxes, so affected workers will still pay state, local, and payroll taxes on tips and overtime. The deductions are temporary and effective starting in 2025 but will expire in 2028, just before President Trump is set to leave office.
The primary beneficiaries of this change are service industry workers and hourly employees who earn income from tips and overtime pay, such as waitstaff and other tipped workers. These groups will benefit from a reduced federal tax burden on a significant portion of their earnings. However, many tipped workers who do not earn enough to pay federal income taxes will see no practical impact, and those in similar wage jobs without tipping do not benefit from these deductions.
The law also phases out benefits for higher-income earners, limiting the relief to low- and middle-income workers within the set thresholds. For instance, only 1.4% of households making less than $33,000 a year would benefit from the tip income tax break, with an average after-tax income rise of $450 a year.
Some analysts warn that eliminating taxes on overtime pay could disrupt the labor market by encouraging more workers to take overtime shifts. On the other hand, a new 'bonus' tax deduction up to $6,000 could be on the way for those age 65 or older.
It is essential to note that there are reporting requirements for these incomes on Forms W-2 and 1099 to ensure compliance. Workers must continue to report monthly tips exceeding $20 to their employers, who will withhold income and FICA taxes and report the amount to the IRS.
In conclusion, the Trump tax law offers targeted federal income tax relief on tips and overtime pay, primarily benefiting low- to moderate-income tipped and hourly workers. The changes fulfill a major campaign promise with limits and eventual expiration designed to manage its fiscal impact. The Congressional Budget Office estimates exempting overtime pay will cost $124 billion through 2028.
[1] https://www.taxpolicycenter.org/taxvox/trump-tax-plan-would-cut-taxes-big-winners-are-wealthy [2] https://www.nytimes.com/2017/11/02/us/politics/trump-tax-plan.html [3] https://www.washingtonpost.com/business/economy/trump-tax-plan-would-cut-corporate-tax-rate-to-15-percent-and-reduce-individual-rates-by-4-percentage-points/2017/09/27/d9a5948a-7a4f-11e7-b97b-e41a21f142c7_story.html [4] https://www.cbo.gov/publication/53658
Business owners and individuals in the personal-finance sector should be aware of the recent changes in federal income tax structure due to the new tax bill signed by President Donald Trump. Effective from July 4, 202x, qualified tips up to $25,000 and overtime pay up to $12,500 for single filers or $25,000 for joint filers are exempt from federal taxation, providing a substantial tax break. However, provisions apply only to federal income taxes, and affected workers will still pay state, local, and payroll taxes, as well as report these incomes on Forms W-2 and 1099 to ensure compliance.
