‘No tax on tips’ could end large-group restaurant service fees

Many restaurants may need to rethink their mandatory tipping policies if they want this income to count as qualified tips for their employees under new tax laws.

The “no tip tax” provision in President Trump’s One Big Beautiful Bill Act allows some employees to deduct up to $25,000 in “qualified tips” annually from 2025 to 2028. The problem is that mandatory tips of 15% to 20%, which restaurants often impose on parties of six or more, are not eligible for the deduction; It’s a disappointment for the restaurant and food service industry that holds out hope for a different outcome.

The industry is the nation’s second-largest private sector employer, providing 15.7 million jobs, or 10% of the total U.S. workforce, according to one study. data summary From the National Restaurant Association, based on the U.S. Census Bureau’s American Community Survey.

It is certain that the issue of service fees will attract the attention of many restaurateurs. Research from the National Restaurant Association shows that 54 percent of full-service operators — including 67 percent of fine dining operators — say their restaurants sometimes add a service fee or automatic tip to customer checks. Of this group, 12% add a service charge or automatic gratuity to all checks, while 88% only add it to parties or banquets, special events or catering events that exceed a certain number of people (usually six or more).

Notably, the Internal Revenue Service never appears to consider these service fees as tips. But the restaurant industry isn’t exactly following the letter of the law, according to Jean Hagan, partner at Eisner Advisory Group, which focuses on the restaurant industry.

During a recent webinar for a major state restaurant association, Hagan said he was surprised to learn that many business owners should not count service charges as tips. “They always do it a certain way; they tip service fees to employees,” Hagan said.

But restaurants will now have to credit all tips to the employee’s payroll for the employee to qualify for the deduction, even if they didn’t do so before or if they added service charges incorrectly. There will be more pressure on restaurants to do this properly. “They need to clean up their systems and follow the law as always,” Hagan said. “If they don’t do this, the employee will not be able to take full advantage of the new tax law.”

Industry lobbying has been unsuccessful to date

Some restaurant industry advocates are lobbying to change the way service charges are handled. They want automatic gratuities to be included as tips. For example, the Culinary Association of Nevada has made formal recommendations to the U.S. Treasury Department and the IRS that automatic tips and suggested tips should both be considered eligible tip income. Separately, several members of Congress from Nevada also asked Treasury Secretary Scott Bessent To ensure that automatic tips are eligible for tip deduction.

“Operationally, there is no distinction between automatic gratuities and tips for employees, and including this income as eligible income will prevent arbitrary distinctions between tipping practices that would disadvantage workers based solely on their employer’s business model,” lawmakers wrote in an Aug. 12 letter.

But the long-standing distinction between service charges and tips is unlikely to disappear. IRS in September published proposed rules about the new “no tax on tips” discount. The rules aren’t final yet, but there doesn’t seem to be much wiggle room since OBBBA’s language is clear that tipping should be optional. “Congress’s intent is pretty clear,” said Andrew Lautz, director of tax policy at the Bipartisan Policy Center. “It’s unclear how restaurants will react to this,” he added.

Business owners weigh next steps and competitive advantage

Some restaurants are taking a wait-and-see approach.

“Restaurant operators are closely monitoring the IRS’s final ‘No Tip Tax’ rules and will consider any changes to their restaurants’ current policies regarding tipping to best suit the wishes of their tipped employees,” Sean Kennedy, vice president of public affairs for the National Restaurant Association, wrote in an email.

“These workers chose a restaurant job because of the income potential from tips, so the operators want to make sure they can take full advantage of the tax credit available to them,” he wrote.

A spokesperson for the Texas Restaurant Association said some restaurants are “consulting with their accountants, point-of-sale providers and teams to determine what approach is best for their business and employees.”

Some business owners may decide to make changes due to competition. “For restaurants that use the commission-based model or utilize service fees, these servers will likely view giving up $25,000 in tax-free income as a disadvantage when they could potentially move to a restaurant that does not use service fees and therefore qualify for up to $25,000 in tax-free tips,” said a spokesperson for the Florida Restaurant and Lodging Association.

Tips IRS guide to making the most of your tax deduction

Although regulations regarding these rules have not yet been finalized, industry participants do not expect much change in service fees and tip eligibility. At a hearing in October, the IRS reiterated its stance that service fees are not eligible for the deduction, said Scott Klein, senior director of tax policy and advocacy at the American Institute of CPAs, who attended the hearing. That’s unlikely to change in the final regulations, he said.

In its September guidance, the IRS offered several examples of how restaurants can respond so their employees can get the most benefit from deductions under the rules. “If a customer is clearly given the option to ignore or change amounts added to an invoice, those amounts are not mandatory amounts,” the guidance states.

For example, let’s say a restaurant’s menu states that an 18% fee will automatically be added to all bills for parties of six or more customers. Even if the restaurant distributed that amount to waiters, it wasn’t a qualifying tip for deduction purposes, the IRS said. However, if the restaurant adds a line saying “additional tip amount” and the customer adds 2% of the food and beverage price, that 2% amount may be considered a qualified tip.

Another option would be for the restaurant to include a “suggested tip” equal to 18% of the food and beverage price and include a line for the customer to subtract (including zero) or add the suggested tip amount before paying the bill. Let’s say the customer deducts 3% from the recommended tip amount, resulting in a tip of 15%. According to the IRS, the 15% amount the customer voluntarily pays is a qualified tip in this scenario.

In another example provided by the IRS, a server presents a customer’s bill on an electronic handheld point-of-sale device offering the option of paying 15%, 18%, 20%, other or no tip. Since the customer has the right to determine the additional amount and the option to leave no tip is clearly provided, the amount selected is a qualified tip. However, if the customer is not given the option to change the amount or leave a zero tip, the amount selected will not be a qualifying tip for deduction purposes.

The clock is ticking as restaurant owners and employees weigh their options. The situation is complicated for restaurants and other businesses whose employees want to claim deductions for 2025 because President Trump’s OBBBA is so new and the IRS is still drafting applicable regulations. AICPA, he asked The Treasury Department and the IRS will create a safe harbor for businesses this tax year. Issue at the beginning of November. This means employers will not face penalties for “failing to make a separate accounting of amounts reasonably determined to be cash tips or the occupation of the person receiving such tips.”

This safe harbor applies only to the 2025 tax year.