How does Tip income affect my taxes?

Over the years I’ve gotten to know a lot of people who work in industries where tip income is a big part of their compensation.  The IRS considers all tips (from customers, credit cards and tips received under a ‘tip sharing’ arrangement) to be taxable income.  One of the first things workers find out is that that the IRS expects all tips to be reported.  The rule is that if you receive $20 or more in a month, those tips need to be reported to your employer who makes sure social security tax is paid on the tips.  Unfortunately this means the paycheck goes down but following the tax laws is a good idea (and what I promote in my blogs)!

So, how do you keep track of your tips?  The IRS has a number of tools they’ve developed over the years and I encourage tip earners to use the following IRS tool – a daily record of tips that can be found here.  It is a simple worksheet that tabulates your tips, broken down into categories and also includes a form 4070 where the employee reports their tips to the employer.  Make a copy for each month & you’ll have your info in a concise backup for your tips.  If you earn less than $20/month in tips, then the tips are NOT subject to Social Security or Medicare tax, but are still subject to Federal Income Tax

As far as enforcement goes, the IRS takes under-reported tips very seriously and they have confidential tables that show what the ‘expected tip income’ is for certain types of establishments, broken down into cities and towns, and even into specific locations.  If a tip earner reports tip income significantly below the ‘average’, they may get a notice from the IRS to produce records backing up their figures (such as a daily tip log).  I’ve seen IRS cases where an agent goes into an establishment (sometimes ‘looking for work’) to watch how much people leave as tips.  Since the government is considered ‘broke’, the IRS is taking a longer look at tax returns for people who work in ‘cash’ industries and tip earners are one of their targets.

For more information on how the IRS handles tip income, a link to an IRS publication is here.  If you like this blog, feel free to share with any tip earners or employers!

I welcome your comments & questions – my contact info list listed below.  If you need a hand during this tax season, I’m happy to help.


Thomas C. Hodge, CPA

The Hodge Group
3040 N. Menard Avenue
Chicago, IL 60634


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