A year after President Trump signed the "One Big Beautiful Bill" into law, many states, predominantly led by Democrats, continue to tax tips, overtime pay, and Social Security benefits, undermining the federal legislation's goal of increasing American paychecks. This divergence has created a patchwork of tax laws, resulting in varying financial impacts for workers depending on their state of residence.
The federal law, enacted on July 4, 2025, aimed to provide tax relief on these income sources. However, a review of state tax laws reveals that 31 states and Washington D.C. still tax tips, 30 states and D.C. tax overtime pay, and eight states continue to fully tax Social Security benefits.
Tax on Tips
Workers in states that have not conformed to the federal deduction for tips could see a significant portion of their earnings taxed at the state level. Minnesota, for example, imposes an individual income tax ranging from 5.35% to 9.85%. A server in Minnesota earning $70,000 annually, with $25,000 from tips, could lose an estimated $1,700 due to the state's tax on those tips. The New Mexico Restaurant Association has criticized the state for continuing to tax tips, arguing it is out of step with the needs of service workers and presents an opportunity for broader income tax relief.
In contrast, states like Idaho that have conformed to the federal standard allow service workers who earn an average of $25,000 in tips annually to keep an additional $1,325. The federal law allows a deduction of up to 10% on tips.
Tax on Social Security Benefits
The federal law also introduced a temporary deduction of $6,000 for Americans aged 65 and older on Social Security benefits, applicable through the 2028 tax year. However, eight states—Colorado, Connecticut, Minnesota, Montana, New Mexico, Rhode Island, Utah, and Vermont—continue to tax Social Security benefits entirely. For seniors on fixed incomes, this can lead to a higher tax burden solely based on their state of residence.
Vermont's exemption, for instance, applies only to individuals earning under $55,000 or couples earning under $70,000, while the federal law phases out the deduction for individuals earning $75,000 or more. According to the Senior Citizen League, this disparity can make it harder for retirees to manage rising living costs.
Tax on Overtime and Education Credits
Approximately 30 states and Washington D.C. still levy state-level taxes on overtime pay, despite the federal elimination of these taxes under the "One Big Beautiful Bill." This federal provision allows for a deduction of up to $12,500 in qualifying overtime pay. States that have conformed, such as Michigan, allow a similar deduction from state tax bills until 2028.
Labor groups, including the Transportation Trades Department, argue that this continued taxation on overtime is unfair, particularly for hourly workers in industries like transportation, where federal overtime rules may differ.
The legislation also established the Education Freedom Tax Credit program, designed to expand school choice through scholarship organizations. This program requires states to opt in. To date, 29 states have adopted the program, allowing taxpayers to contribute up to $1,700 to a qualified scholarship organization and receive a full refund. States that opt out still allow contributions, but the funds benefit students in other states, a situation advocacy groups describe as a missed opportunity for their own state's students.