The Fee on the Tip
A tip used to be something you could get arrested for. Now it's something the shop pays a card fee on, and since 2026 the tip screen also decides part of the worker's tax break.
Tess and Ray · 22 min · 13 Oct 2026
Verified to the FactUnion StandardChecked 13 Oct 2026
About this episode
In 1910s Iowa, a barber could be arrested for taking a quarter tip. Today nobody goes to jail for tipping. But when a client taps a tip on a card reader, the shop pays a percentage on that tip and on the sales tax too, money that was never the shop's. Tess and Ray follow that fee from the tap to the deposit. Along the way: Illinois's one-of-a-kind ban on fees on tips and tax, now stuck in federal court; the state rules on whether an owner can take the fee out of a worker's tips; and the 2026 IRS rules that turned the tip screen into a tax record.
They also give both sides of the argument, including bank and think-tank critics who say bans like this mostly help big retailers. Then they end on two things to look at on Monday: your processor statement and your own tip screen. This is general information, not legal or tax advice.
Hosted by Tess and Ray, performed by synthetic voices. Verified to the FactUnion Standard. Supported by Lynqly.
Fact sheet
Every fact used in this episode, with the source it was checked against. Download the fact sheet
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As of October 2026, the Illinois Interchange Fee Prohibition Act has not taken effect, and its implementation is delayed until July 1, 2027.
Illinois Interchange Fee Prohibition Act: Status in 2026Illinois Pushed Its Interchange-on-Tax-and-Tips Law to July 2027, and a Federal Court Has Illinois Swipe Fee Law Delayed and Partially Blocked Amid Ongoing Legal Challenges
On September 22, 2026, U.S. District Judge Virginia Kendall extended the permanent injunction against the Illinois law to federal credit unions.
Court exempts federal credit unions from Illinois interchange law | ABA Banking JournalNo. 24 C 7307 Chief Judge Virginia M. KendallCourt extends permanent injunction against Illinois interchange fee ban to federal credit
The injunction now protects national banks, federal savings associations, federal credit unions, out-of-state state-chartered banks and payment card networks, leaving the law applicable only to state-chartered credit unions and Illinois-chartered institutions.
Judge Permanently Bars Illinois From Restricting Interchange Fees at Fed Charters; State CJudge Kendall extends IFPA permanent injunction to federal credit unions | ABA Banking JouNo. 24 C 7307 Chief Judge Virginia M. Kendall
NACS reported on October 12, 2026 that Illinois Attorney General Kwame Raoul has filed an appeal to protect the state law limiting swipe fees.
Illinois Attorney General Files Appeal to Protect State Law Limiting Swipe Fees | NACSIllinois to Appeal Order Blocking State ‘Swipe Fee’ RestrictionsIllinois Attorney General Files Appeal to Protect State Law Limiting Swipe Fees – Petroleu
The plaintiffs suing Attorney General Raoul over the Illinois law are the Illinois Bankers Association, the American Bankers Association, America's Credit Unions and the Illinois Credit Union League.
Illinois Bankers Association et al v. Raoul 1:2024cv07307 | U.S. District THE UNITED STATES DISTRICT COURT FOR THE NORTHERN DISTRICT OF ILLINOIS EASTERN DIVISION ILIllinois Bankers Ass'n v. Raoul (N.D. Ill. 2025). · Go Syfert
The Illinois Retail Merchants Association pushed the Interchange Fee Prohibition Act, passed in the final days of the May 2024 legislative session, to offset a cap on the discount retailers receive for collecting sales tax.
Illinois' Landmark Law Limiting Credit Card Fees Put to Legal Test | WTTWA Fight Over an Illinois Interchange Prohibition Law Is Far From Over – Digital TransactioIllinois passes one-of-a-kind swipe fee restrictions | American Banker
In a December 20, 2024 opinion, Judge Kendall granted the bankers' motion for a preliminary injunction against the Illinois law in part.
Illinois Bankers Association v. Kwame Raoul, Memorandum Opinion and OrderMEMORANDUM OPINION AND ORDER Pending before the Court is Plaintiff Illinois Bankers AssociIllinois Bankers Association et al v. Raoul, No. 1:2024cv07307 - Document 104 (N.D. Ill. 2
Analysts in September 2026 advised Illinois merchants not to budget for savings or buy compliance products, because the law's reach depends on charter-type distinctions that current payment infrastructure is not designed to handle.
Illinois Interchange Fee Prohibition Act: Status in 2026Illinois Pushed Its Interchange-on-Tax-and-Tips Law to July 2027, and a Federal Court Has The Hidden Costs of Interchange Fee Bans - Competitive Enterprise Institute
Visa and Mastercard calculate interchange, network assessments and processor markups on the full captured total, including the gratuity, with no carve-out for tips.
Tipping Fees on POS Systems: 2026 Operator Guide | myPayAdvisor
For U.S. merchants in restaurant categories MCC 5811, 5812 and 5814, Visa's tip tolerance is 30 percent above the authorized amount as of February 21, 2026.
Full-Service Restaurant Payments: Tabs and TipsTip Adjustment in Restaurants: The Rules That ApplyRestaurant Payment Processing: The Complete Cost Guide
Exceeding the tip tolerance without an incremental authorization can downgrade a transaction, typically adding 0.30 to 0.50 percent in costs.
Tipping Fees on POS Systems: 2026 Operator Guide | myPayAdvisorFull-Service Restaurant Payments: Tabs and TipsInterchange Downgrade Cost Calculator | Calculate Fees | Payment Processor Guide
According to the cited chart, hair salons (MCC 7230) have a Mastercard tip tolerance of 25 percent but a Visa tolerance of 0 percent, so Visa transactions adjusted for a tip after authorization downgrade to a non-qualified rate.
The Electronic Payments Coalition estimated that Illinois merchants would save $118 million a year in interchange fees under the law, in a 2024 report arguing the law creates a windfall for the largest retailers.
New Illinois Law Creates Windfall for Largest (EPC)Who Will Benefit Most Becomes the Latest Flash Point in the Battle Over the Illinois InterNew Illinois Law Creates Windfall for Largest Corporate Mega-Stores
A Common Sense Institute analysis estimated that Colorado merchants paid about $110.5 million in interchange fees on sales tax and tips combined in 2023.
The Economic Impact of State Restrictions on Interchange Fees - Common Sense InstituteThe Economic Impact of State Restrictions on Interchange Fees – Common Sense InstituteTHE ECONOMIC IMPACT OF
ICLE's October 2026 brief argues that the proposed Visa-Mastercard antitrust settlement would reduce interchange fees nationwide and shrink the savings from state carve-outs for taxes and tips, making those carve-outs redundant and more harmful.
Visa-Mastercard Settlement Benefits Merchants, Makes State Swipe-Fee Carveouts more harmfuCarveouts at Checkout: Small Savings, Large Costs, and the Payment-Card Settlement
CEI's written testimony urges rejection of Massachusetts Bill S.688, a state bill that would prohibit interchange fees on the sales tax and gratuity portions of card transactions, arguing it would primarily benefit the largest retailers.
CEI Written Testimony on S.688CEI Comments on Massachusetts act prohibiting card interchange fees - Competitive EnterpriAn Act Prohibiting Card Interchange Fees on Tax and Gratuity (S. 688)
CEI argues that after the Durbin debit cap, banks offset lost revenue by sharply reducing the availability of free checking (from about 60 percent to about 20 percent of covered banks), nearly doubling monthly fees and tripling minimum balance thresholds, while most consumers did not see merchant savings passed on to them.
The Hidden Costs of Interchange Fee Bans - Competitive Enterprise InstituteThe Impact of the Durbin Amendment onLet’s resolve to repeal Durbin’s debit card interchange price controls in 2026 - Competiti
Under the federal FLSA, an employer may deduct a card processing fee from credit-card tips only up to the actual fee the card company charged, may use a blended or average figure only if it does not exceed that actual charge, and may not cut pay below minimum wage.
Can employers deduct credit card fees from tips? Rules by stateFact Sheet #15: Tipped Employees Under the Fair Labor Standards Act (FLSA) | U.S. DepartmeDEPARTMENT OF LABOR Wage and Hour Division 29 CFR Parts 10, 516, 531, 578, 579, and 580 RI
As of October 2026, California, Delaware, Maine, Massachusetts, Minnesota and New Jersey prohibit employers from deducting card processing fees from employee tips, while Illinois, New York and Washington permit a proportional deduction.
Can employers deduct credit card fees from tips? Rules by stateCan Employers Deduct Credit Card Fees From Tips? — Server44Tip Pooling Laws by State (2026): Tip Credit and Who Can Share
Law firm Clark Hill notes that Pennsylvania also prohibits deducting credit card costs from employee tips.
Can an Employer Deduct Credit Card Costs from Employee Tips? | Clark Hill PLCOvertime and Tipped Worker Rules in PA | Department of Labor and Industry | Commonwealth o34 Pa. Code § 231.113 - Credit card and other processing fees | State Regulations | US Law
The One Big Beautiful Bill Act gives a federal income tax deduction for qualified tips in customarily tipped occupations from 2025 through 2028, capped at $25,000 a year.
No tax on tips: Final rules confirm qualifying occupations and tip definition | RSM USAnswering Tax and Tip Questions About the One Big Beautiful BillA Primer for Employers on OBBBA’s No Tax on Tips Law - Lexology
On April 10, 2026, Treasury and the IRS issued final regulations listing more than 70 occupations eligible for the tips deduction, including barbers, hair stylists, nail technicians and baristas.
Treasury, IRS issue final regulations listing occupations | IRSIR-2026-49: Treasury, IRS issue final regulations listing occupations where workers customIRS Issues Final Regs on Occupations Eligible for OBBBA Tips Deduction - CPA Practice Advi
Under the final rules, a point-of-sale system must offer a zero-tip option for a tip to be qualified; if the system forces a minimum tip, only the amount above that minimum qualifies.
No tax on tips: Final rules confirm qualifying occupations and tip definition | RSM US
Self-employed booth renters can claim the tips deduction, but it is limited to their business's net income and does not reduce self-employment tax.
Tip Tax Deduction for Hair Stylists & Barbers: W-2 and Booth Renters | TaxPenaltyToolPart II — Instruction 1040 — Instructions for FormDoes No Tax on Tips Lower My Self-Employment Tax? (w/Examples) + FAQs
A 2026 ChairHold report estimates that about 71% of licensed U.S. cosmetologists, barbers and nail techs worked as booth renters or independent contractors in 2026, up from about 58% in 2019, as salon suite locations grew from about 9,000 to 15,000.
The National Restaurant Association reports that restaurant total expenses rose 36% since 2019, and a 2026 analysis of its data notes that 42% of operators were unprofitable in 2025.
Elevated costs continue to pressure restaurant profitability | National Restaurant AssociaTotal Restaurant Expenses Jumped 36% Since Before the Pandemic - Restaurant News ResourceRestaurant economics squeeze chains even as consumers keep dining out
Between 1909 and 1915, six states (Washington, Arkansas, Iowa, Mississippi, South Carolina and Tennessee) passed laws against giving or soliciting tips, and all were repealed or struck down by 1926.
Tipping: From Scourge of Democracy to American Ritual | Richmond FedWhat happened to the anti-tipping laws?US legislative efforts to abolish tipping
Washington's anti-tipping law, the first in the nation, took effect at midnight on June 8, 1909.
Anti-tipping law, first in the nation, takes effect in Washington state at midnight on JunThis Day in Labor History: June 8, 1909 - Lawyers, Guns & MoneySTATE OF WASHINGTON~
In his 1916 book The Itching Palm, William R. Scott argued that tipping allowed employers to pay substandard wages by shifting labor costs to customers.
The Itching Palm, by William R. Scott | Project GutenbergThe Project Gutenberg eBook of The Itching Palm, by William R. Scott
In Dunahoo v. Huber (1919), the Iowa Supreme Court struck down the state's anti-tipping law in a case brought by Sioux City barber T.J. Donahoo, who had been arrested after accepting a 25-cent tip, ruling that the law arbitrarily barred employees but not business owners from taking tips.
When Tipping Was Illegal in Iowa, And How A U.S. President Broke That Law | Investigate MiDunahoo v. Huber, 185 Iowa 753 (Iowa 1919) | HallApproved.comDunahoo v. Huber (Dunahoo v. Huber, 185 Iowa 753, 171 N.W. 123 (Iowa 1919)) - vLex United
