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Are Tips Taxed: a Guide for Customer Service Workers and Delivery Drivers

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Are Tips Taxed: a Guide for Customer Service Workers and Delivery Drivers

When you're grateful for quick delivery or a great DJ at your wedding, you're probably inclined to give them a tip, a little extra cash on top of their fee. The practice of tipping service providers has become so entrenched in American culture that it is now the main source of income for many US workers, particularly restaurant workers. It's not required by law that you tip the server who brings you your food at a sit-down restaurant, but the IRS does require people who receive tips to pay taxes on them as income. If a big part of your income comes from tips, it's necessary to think about tips for 1099 tax purposes. You might be wondering, "Are tips taxable?" They are, but that's not the only nugget of tax-related wisdom you should know.

Table of contents

Key takeaways...Read more

Why do we have this system?...Read more

So, are tips taxable?...Read more

What exactly is considered a tip?...Read more

What is not considered a tip?...Read more

How are tips taxed?...Read more

FlyFin makes taxes on tips easier...Read more

Key takeaways

  • Tips are indeed taxable
  • The same tax rates apply to tips as to W-2 or 1099 income
  • Some things might seem like tips but aren't

Why do we have this system?

Our widespread system of gratuities and taxes on tips wasn't always this way. Historians write that in early America, like before the Civil War, tipping was frowned upon because it was seen as classist. If you tipped someone, it meant you thought of them as beneath you. But when wealthy Americans went abroad, they brought back the practice of tipping that Europe had at the time. After the 15th Amendment did away with slavery, some restaurants used tipping as a way to keep wages down, and well, here we are today. While this was all happening, the American anti-tipping attitude crossed the ocean and was adopted by groups advocating for workers' rights in Europe. Today, most restaurants in Europe might look at you funny if you leave a tip. But using tips to function as minimum wage has been allowed since it was codified by law in 1939. That means delivery drivers, hair stylists, bartenders, dog groomers and freelancers working hundreds of other jobs in the US make a significant part of their income from tips. And as with most other sources of income, the IRS asks for a share.

So, are tips taxable?

They are. The IRS considers tip money to be taxable income, similar to wages. How much are tips taxed, then? Your tips are meant to be lumped in with your paycheck when your total taxable income is calculated. Are tips taxed differently than wages, then? Nope, even though you receive that tip income differently than you do your paycheck, you're taxed on tips in the same way you're taxed on wages. Usually, you receive a tip for doing your job well or for going above and beyond in the service you provide. And that can make tips feel a little bit special. Unfortunately, tip income is not special because it's taxed in the same way as regular pay. That means you need to pay income tax, Social Security and Medicare taxes on your tips.

What exactly is considered a tip?

Tips usually come in the form of money that you receive in cash or as an addition to the bill, if your company is paying credit card tips to employees. But you can also receive non-cash tips like tickets to the upcoming Maroon 5 concert, a gift card to the big box department store or passes to the new club that just opened downtown. If you're a delivery driver, and you get a five spot from half of the customers you deliver food to every shift, that money is considered tips. The same goes for that pair of Bulls tickets a customer left you for the great service you provided her party of 15 at your restaurant.
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A tip is really anything of value that is not considered mandatory in the policies of the company you're working for. It also needs to be something that the customer doing the tipping chooses to do of their own volition. Something to keep in mind, especially for those working in food service is that money that you receive indirectly from customers is also considered taxable tip money. Think money you might get from a server who tips you out after their shift. If you're a chef at a restaurant, and your restaurant is like most, you'll receive a tip-out from servers, along with other kitchen staff and the employees who bussed tables all evening. Even though it didn't come directly from a customer, it's considered tip money.

What is not considered a tip?

A handful of extra charges can be found on a bill that are considered service charges by the IRS rather than tips. These charges are set by the restaurant or whatever company is providing the goods or services (and the bill) for sale. Because the employer sometimes keeps these automatic gratuities, the IRS does not consider them to be tips. After all, they're part of the bill and don't fit the tip criteria of being voluntarily given by the customer to you, the employee.
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How are tips taxed?

You are taxed on tips like on any other kind of income. In fact, they are lumped into the rest of your taxable income. This means that if you're self-employed, you'll be paying tip tax in the form of income tax and self-employment tax.
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How much are tips taxed?

How are tips taxed on paycheck?

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