Exempting Tips and Overtime from Income Tax Distracts from Big Gifts to Wealthy, Won’t Help Many Workers

Trump’s big ugly budget reconciliation bill exempts tipped income and overtime pay from federal income tax for tax years 2025 and 2028. The exemption on tips is capped at $25K. The exemption on overtime only applies to the “half” portion of “time and a half” and is capped at $12.5K. While I look forward to taking about $3,600 in my paychecks out of the equation for my unwilling support of King Don’s Nazi bribe machine, these new exemptions will increase the federal deficit by $32 billion.

Meanwhile, Trump’s tax breaks hand over $50K to each of the richest one percent of taxpayers, and tax breaks for the top 10% will cost $2.3 trillion. Just one of those plutocrats-only tax breaks, increasing the exemption on estate taxes from $10 million to $15 million, will cost $212 billion, almost seven times the revenue we’re handing back to the bottom of the tax brackets by exempting tips and overtime.

In a warning to states about the fiscal perils of writing tip and overtime exemptions into their state tax codes, the Institute on Taxation and Economic Policy calls out these worker-friendly exemptions as bad tax policy designed to distract us from Trump’s upward redistribution of wealth:

These limited deductions were enacted primarily to distract from the windfall given to our nation’s wealthiest residents in the new law. They do very little to help working Americans make ends meet while deepening the federal deficit to the tune of $33 billion each year [Neva Butkus and Galen Hendricks, “Linking to Tipped and Overtime Income Deductions Would Worsen State Shortfalls, Do Little to Help Workers,” ITEP, 2025.12.08].

ITEP says the tip and overtime exemptions leave out most workers:

First and foremost, very few workers qualify for these deductions. Of workers earning less than $25 an hour, just 5.2 percent are in occupations that tend to rely on tips. Among workers overall, just 6 percent² report receiving overtime income. And even some of those workers who receive tips or overtime pay would be partly or fully excluded from receiving these state-level deductions if they earn too little to owe state personal income tax.

Exempting tips and overtime income unproductively divides the working class into those considered worthy and unworthy of preferential tax treatment. In tax parlance, this is known as violating the “horizontal equity” principle of fair taxation—the idea that two workers with similar incomes in similar households should pay similar amounts in tax. But you don’t need to be a tax wonk to see that carving out exemptions that favor certain professions over others is nonsensical – why should a waiter or bartender making $30,000 a year, largely through tips, pay significantly less income tax than a child care worker or a line cook at a fast-food restaurant who is paid the same amount? Instead of creating winners and losers in our tax system, state lawmakers should be pushing to foster economic security among the working class more broadly. For the same cost of creating tips and overtime carveouts for workers in certain favored professions, Congress could have expanded the Earned Income Tax Credit by almost 50 percent³ – a move that would have improved the fortunes of lower-paid workers regardless of their profession [Butkus and Hendricks, 2025.12.08].

The tip and overtime exemptions may also simply benefit cheapskate employers while increasing pressure on the workers the exemptions are supposed to help:

Exempting tips from state income tax could put downward pressure on hourly wages as employers pivot to relying on tips to compensate workers for providing services. That is, instead of providing wage increases for hotel desk clerks, housekeepers, lawn care workers, or one of the other 68 occupations identified by the Treasury Department as deserving access to the deduction, their employers could instead push to expand tipping culture to compensate for underpaying these employees. Faced with the choice of either updating hourly wages to reflect inflation, for instance, or inching up the “suggested tip” percentages that appear at checkout, the tips deduction makes it more likely that employers will opt for the latter.

Deductions for overtime income could also put downward pressure on wages. The 40-hour work week was a hard-fought labor policy, and time-and-a-half pay for overtime forces employers to hire adequate staff as opposed to exploiting a smaller group of workers through unreasonably long work weeks. Exempting overtime pay from state taxes would incentivize reclassifying positions as hourly, with one upshot being that employers could harness the new overtime deduction as a tool for coaxing longer hours out of their workers. Even worse, some employers may be tempted to curb future pay raises in favor of holding untaxed overtime hours over the heads of employees who now need the extra shifts to make ends meet [Butkus and Hendricks, 2025.12.08].

Don’t be fooled, my laboring brothers and sisters: even the paltry scraps Trump throws us from the bottom of his bucket, after lavishing his rich friends with the biggest favors, may just put us in a worse working situation while putting the nation deeper into debt.