Before the inclusion of the "tip tax exemption" provision in the One Big Beautiful Bill Act, this was merely a tax relief promise from Trump's 2024 campaign. However, after the provision took effect, compliance has become quite complex for tax filers, employers, and employees in industries that rely on tips or "variable pay."

According to Tom O'Saben, director of tax content and government relations at the National Association of Tax Professionals, the new tip rules in the OBBBA Act, signed into law last year, have spurred one of the most significant payroll reporting changes in over a decade.

The new rules impose a considerable operational burden on payroll system administrators—they now need to track and report more granular tip data, and many tips are paid in cash and often unreported. At the same time, the new rules attempt to bring order to a historically chaotic area of tip tax reporting.

"Tips have always been a very ambiguous and chaotic area of taxation," O'Saben said, noting that there has always been doubt about whether people fully report their tips. "In some ways, this almost acts as an incentive to encourage people to proactively report tips."

To comply with legal requirements, employers need to work with employees to record cash tips and tips paid through third-party systems. Since more tips are being paid via credit cards or other payment services, verifying total tip information should be easier than before.

According to IRS guidelines, the new law allows eligible workers to deduct up to $25,000 in qualified tips from their income for tax years 2025 through 2028. O'Saben emphasized that this is only a federal tax deduction, not a state tax deduction, so it does not completely exempt tips from taxation.

This year is a transition year. The IRS announced in August that it would not adjust the 2025 W-2 form for now, to avoid disruption and "give the IRS, businesses, and tax professionals enough time to implement the changes."

The IRS guidance also provides penalty relief for employers related to qualified tip information reporting for the 2025 tax year, and grants employees and employers "transitional relief" until January 1 of the first calendar year after final rules are issued, to determine whether they fall into an exempt category. This information was reported by HR Dive, a sister publication of CFO Dive.

O'Saben expects that the 2026 W-2 form will add new fields to identify employees in approved tip categories (such as restaurants, bars, hotels, salons, and delivery services). Additionally, two new Box 12 codes are expected to be added, requiring information on total qualified tips and total qualified overtime compensation.

For now, his advice to payroll filers is: don't ignore the new rules, and make a "best effort" to collect and document your system. "Document, document, document—that's my advice to employers," O'Saben said. "Document the methods you use, as well as any recommendations your payroll service provider may give."