2025 Tip Deduction Explained: What Employees and Employers Need to Know

The 2025 tax year brings an important new tax deduction for workers who earn tips—and new compliance requirements for employers. If you receive tips as part of your job or you employ tipped workers, understanding how the 2025 tip deduction works is critical to maximizing tax benefits and avoiding IRS issues.

Below, Peters Tax Preparation & Consulting breaks down everything you need to know about the cash tip deduction for employees and the new tip reporting rules for employers.

Tip Deduction for Employees in 2025

What Is the Tip Deduction?

Starting in 2025, eligible employees can claim a deduction for cash tips received, up to $25,000 per tax return. This deduction is taken on your individual tax return (Form 1040).

Important details to know:

• The deduction is per return, not per person

• Married couples filing jointly are still limited to $25,000 total

• If your income exceeds $150,000 (or $300,000 for married filing jointly), your deduction may be reduced

  
  

This deduction can significantly lower taxable income for workers in tip-based occupations—if handled correctly.

Can I Deduct Tips I Didn’t Report to My Employer?

No. Only reported tips qualify for the deduction.

• Tips must have been reported to your employer during the year

• Unreported tips are not eligible for the deduction

• Self-employed individuals may only deduct tips that were also reported as income

  
  

Accurate tip reporting throughout the year is essential to benefit from this tax break.

How Do I Know How Much I Can Deduct?

You will not receive a single form labeled “tip deduction,” but you can calculate your eligible amount using one or more of the following documents for 2025:

1. Box 7 of Form W-2 – Social Security tips

2. Forms 4070 – Employee’s Report of Tips to Employer

3. Box 14 of Form W-2 (or a separate employer statement) showing qualifying tips

4. Form 4137, Line 4 – If you report unreported tips with your 2025 tax return

Self-employed individuals must rely on their own records, but remember: only tips included in reported income qualify.

Are All Jobs Eligible for the Tip Deduction?

No. The deduction only applies to jobs where workers customarily and regularly receive tips.

The IRS has published an official list of eligible occupations under the One Big Beautiful Bill. If you work in hospitality, food service, personal care, or similar industries, you may qualify—but confirmation matters.

If you’re unsure whether your occupation qualifies, Peters Tax Preparation & Consulting can help you determine eligibility.

Tip Reporting Requirements for Employers

Do Employers Have to Track Cash Tips in 2025?

Yes. As of July 4, 2025, employers are required to track cash tips received by employees, including tips distributed through tip-sharing arrangements.

If you were not tracking tips for the entire year:

• Contact your tax preparer immediately

• For 2025 only, the IRS allows tips to be allocated using any reasonable method

• A qualified tax professional can help determine a compliant allocation approach

What Counts as a “Cash Tip”?

For IRS purposes, cash tips include more than physical cash. Qualifying tips

include amounts paid via:

• Cash or check

• Credit or debit cards

• Gift cards

• Tokens exchangeable for cash

• Mobile and electronic payments (Venmo, Cash App, etc.)

  
  

Mandatory service charges are not tips.For example, an automatic 18% gratuity added to a large party’s bill—when the customer cannot modify or decline it—is considered wages, not qualified tips.

Do Employers Have to Report Tips Separately on Form W-2 for 2025?

For 2025 only, employers are not required to separately report cash tips on Form W-2.

However:

• If tips are not shown directly on the W-2, employees must receive a separate written statement

• Most employers will list qualifying tips in Box 14 of Form W-2

Important for 2026:

Beginning in 2026, the IRS will require cash tips to be reported on Form W-2. Employers should coordinate with payroll providers now to ensure compliance.

What If an Employee Doesn’t Report Their Tips?

Employees are legally required to report tips to their employer. If they do not:

• Employers cannot include those tips on the employee’s W-2

• Employers should encourage timely and accurate reporting

• Failure to report tips can create tax issues for the employee

How Peters Tax Preparation & Consulting Can Help

Whether you’re an employee trying to maximize your 2025 tip deduction or an employer navigating new IRS tip reporting requirements, professional guidance matters.

At Peters Tax Preparation & Consulting, we help:

• Employees calculate and properly claim tip deductions

• Employers implement compliant tip tracking and reporting systems

• Businesses prepare for upcoming 2026 reporting changes

• Clients reduce risk while staying IRS-compliant

  
  

Contact Peters Tax Preparation & Consulting today to ensure you’re handling tips correctly—and keeping more of what you earn.