Regardless of whether it is 'legal' or 'honest' or whatever the
reality of it is that well, it is the reality of it.
When I was behind the bar at Fremont in Las Vegas I signed an
official IRS form saying that I would report X amount of money per
shift as my tips. This was called 'Tip Compliance' and it is a
gamble the IRS is willing to take to avoid having to analyze/audit
the tons of tipped workers.
The option is given to me though if I want to report actual tips or
the IRS's estimate of what I get tipped. The IRS actually does us a
favor though and estimates low.
So say I actually get $100 in tips for the night. The IRS may tax
me on only $40. On the other hand, there has been a few
circumstances where I have made less than $40 in tips yet I am taxed
on $40.
This system works in that the IRS knows they will get taxes on
something. What would stop someone from short reporting as others
here have mentioned, ie: making $100 and only reporting $40?
So again, whether it is right or honest or ethical it is the way it
works and every one seems to be happy with it.