OPINION:
Call it the restaurant rallying cry.
At a campaign event this summe in Las Vegasr, former President Donald Trump previewed a novel proposal to a group of hospitality workers: no tax on tips. “You do a great job of service,” said the past and possibly future president. “So those people that have [tipped] jobs in restaurants … we’re not going after for taxes anymore.”
It’s a great applause line and might even be great policy. But if not handled with care, it could put the payment system for tipped workers at risk.
Tips are treated as taxable income by the IRS, with some $38 billion in tips reported to the tax agency in 2018 (the most recent year for which data was available). This figure is likely conservative: The IRS estimated in 2006 that as much as $23 billion in tip income goes unreported annually.
The substantial income earned from tips pushes the effective hourly pay rate of tipped workers well above minimum wage: Nationwide, servers and bartenders report earning a median wage of $27 an hour, with top earners reporting $40 an hour or more. Indeed, tip income is so substantial that a study by University of California economist David Neumark finds tipped employees are less likely to be in poverty than nontipped workers earning minimum wage.
The Fair Labor Standards Act and most states correctly recognize that tips are equivalent to wages and allow employers to count them toward their employees’ minimum wage obligations. (In rare instances where employees don’t earn at least the legal minimum between their base wage and tips, employers are required to make up the difference.)
Not everyone is happy with this model. “Workers shouldn’t have to rely on gratuities — literally, a gift from customers — as a wage,” said a lawyer for the National Employment Law Project, a labor group that advocates ending the tipping status quo. The group’s views are not shared by tipped workers, 97% of whom prefer the current model to a no-tipping alternative.
But reclassifying tip income as a nontaxable income could unintentionally validate the faulty perspective that tips are nothing more than a “gift from customers.” Indeed, Republican Reps. Matt Gaetz of Florida and Thomas Massie of Kentucky, who introduced legislation in the House to enact Mr. Trump’s proposal, wrote that “tips shall be treated as property transferred by gift.”
Las Vegas’ culinary union Local 226 saw this rhetorical vulnerability in the tip-tax proposal and exploited it. The union offered an endorsement of “no tax on tips” — with a harmful twist. It urged legislators “to endorse a federal ban on a [tipped] minimum wage and to ensure that there are no taxes on tips.” Unions have sought to eliminate the tipped minimum wage because it makes it harder to unionize tipped workers, who are not inclined to pay dues directly out of their tips.
The union’s logic, however flawed, goes like this: If tips are a gift, then employers should not be permitted to credit them toward their minimum wage obligations.
In the handful of states where this faulty approach prevails, employees and customers have paid the price. Studies from the Census Bureau and Cornell University show that tips are lower in these states. Research from the University of California, Irvine, shows that server and bartender jobs have declined as a result. And in the District of Columbia, which recently upended its own tipped wage system, hundreds of restaurants have raised prices, cut jobs and even closed their doors.
Mr. Trump’s proposal was light on specifics, and legislators have tried to fill in the blanks. The bill from Mr. Gaetz and Mr. Massie would exempt tips from income and employment taxes. Another bill from Sen. Ted Cruz, Texas Republican, would exempt them only from income taxes. (An exemption from employment taxes by future Social Security claimants may raise concerns about fiscal responsibility.)
There is much to like about the former president’s proposal. It highlights the contributions of tipped workers, rewards their entrepreneurialism, and indeed could make tipped work more popular because of the attractive tax treatment. But the proposal’s advocates should be careful not to embrace the faulty logic that tips are anything other than income earned on the job. The statement from the culinary union is a warning that restaurant operators could face substantial future wage increases.
Mr. Trump should be able to accomplish his goal to reduce the tax burden on tipped workers without embracing organized labor’s talking points.
• Michael Saltsman is an owner and partner at Berman and Co.
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