Trump Wants To Exempt Tips From Income Taxes. Why Stop There?
Reducing revenue without identifying offsetting spending cuts means Trump is merely promising to borrow more heavily.
If voters send him back to the White House, former President Donald Trump has promised to stop the IRS from raiding workers' tip jars to fund government spending.
But he's yet to identify any specific spending cuts that would offset that reduction in federal revenues. Without that, this proposal is little more than a promise to add to the federal budget deficit—or it is merely campaign trail blather.
Trump first floated the idea during a campaign rally in Las Vegas on Sunday. "This is the first time I've said this, and for those who work at hotels and people that get tips, you're gonna be very happy," Trump said. "When I get to office we are going to not charge taxes on tips, on people making tips."
The announcement drew cheers from the crowd, and for good reason. Taxes are awful. Having to pay less in taxes sounds great. Trump may not possess the most sophisticated understanding of policymaking, but he's certainly smart enough to grok these basic facts—and to use that knowledge to cater to a crowd that was likely heavy in working-class folks from Vegas who earn a good bit of their income via tips.
Even if this is nothing more than empty pandering, it's an idea that deserves to be taken seriously. That's true in part because this campaign has so far been severely lacking in serious policy discussions. But it's also true because Trump could very well be in a position to execute this vision in a little more than seven months.
There are a few different ways to look at this idea and more than a few unknowns about it would work.
First, as a matter of tax policy, removing the obligation that workers pay income tax on their tips would mean that about 6.1 million Americans would get to keep about $38 billion in income that would otherwise have been taxed away. That's the number of workers who reported earning tips to the IRS in 2018 (the most recent year for which we have full data; data from Table 5.A) and the amount of taxes paid on those tips.
On the surface, that sounds great. But there's already one likely unintended consequence: A lot more income will suddenly be reported as tips. Any time a government gives preferential tax treatment to one type of economic activity, you tend to get a lot more of that type of economic activity. Does that mean we'll have an entirely tip-based economy? Probably not, but there would inevitably be some marginal changes to how workers are compensated.
That brings us to the fiscal policy implications of Trump's plan. Removing the obligation that workers pay income tax on their tips means reducing federal revenue by $38 billion (and likely more, for the reasons just discussed) annually. On its own, that's totally fine—I trust those workers to make better decisions about how to spend that money than the government would.
However, if there are no offsetting spending cuts, reducing federal revenues by $38 billion is nothing more than a promise to borrow more heavily. That's an irresponsible thing to do when the country is already on track to run deficits exceeding $1.5 trillion every year for the next decade. Trump's campaign has started to make an argument for giving the president more direct control over the spending side of the federal budget, but we still need to see a clearer plan for what Trump would be willing to cut in a second term—particularly since his first term landed a long, long way from fiscal responsibility.
Finally, there's the question of whether Trump could actually do this as soon as he takes office. The quick answer is "no."
As The Wall Street Journal explains, exempting tips from income taxes would "require approval from Congress" and "could be challenging for lawmakers to write and for tax authorities to enforce." Realistically, this would have to be a component of whatever tax package passes Congress next year, when lawmakers will have to grapple with the expiration of the 2017 tax cuts.
When that time comes, Trump's plan to eliminate taxes on tipped income is worth considering solely because it means that millions of Americans would get to keep more of their earnings away from the grubby hands of the government. But the drawbacks might be overwhelming. Ideally, the federal tax code ought to impose the smallest possible burden on Americans and ought to distribute that burden as fairly as possible. Trump's plan would fail on those grounds since it would create huge tax advantages for some workers over others (For example, servers at high-end restaurants would stand to benefit far more than workers at fast-food joints or other low-end retailers, as the Journal notes.)
Whether as a campaign tactic or tax policy, politicians should stay away from promising to cut taxes for certain groups or special interests. American workers would be better off with a balanced budget, a less complex tax code, and a government that takes less of their money, regardless of how it is earned.
