Starting in tax year 2025, the One Big Beautiful Bill Act (OBBBA) introduces a valuable tax deduction for employees receiving “qualified overtime compensation.” This provision offers savings for eligible workers and important reporting responsibilities for employers.
What Is “Qualified Overtime Compensation”?
Qualified overtime compensation is overtime paid to an individual required under the Fair Labor Standards Act of 1938 (FLSA) that’s in excess of the regular rate under the FLSA at which the individual is employed. Under the FLSA, employers must pay covered, nonexempt employees at least 1.5 times their regular rate of pay for hours worked over 40 hours a week at a given job.
What’s Changing
Under the OBBBA, individuals who receive qualified overtime compensation are allowed a tax deduction for the “half” portion of the premium pay received. For example, if an employee earns $15/hour and works 50 hours in a week, the 10 overtime hours are paid at $22.50/hour. The $7.50 premium per hour — totaling $75 — is considered qualified overtime compensation and eligible for deduction.
What’s Not Changing
Overtime compensation will continue to be subject to federal employment taxes and income tax withholding. The IRS has announced there will be no changes to certain information returns or withholding tables for 2025. Form W-2, Form 941 and other payroll return forms will remain unchanged for 2025. And 2025 federal income tax withholding tables won’t be updated for the overtime compensation change.
Key Highlights of the Deduction
Eligibility
This applies only to overtime required under federal law — not state law, union agreements or company policies.
Exempt Employees
Those in executive, administrative, professional, computer or outside sales roles aren’t eligible for the deduction.
Deduction Limits
The deduction limit is up to $25,000 annually for those married filing jointly and up to $12,500 annually for all others.
Income Phaseouts
Income phaseouts begin at $300,000 modified adjusted gross income (MAGI) for those married filing jointly (with benefits eliminated at $550,000 MAGI) and $150,000 MAGI for all others (with benefits eliminated at $275,000 MAGI).
Other Conditions
Other conditions include:
- Your Social Security number must be listed on the tax return.
- Married couples must file jointly to claim the deduction.
- Tips are excluded from this deduction, though a separate tip-related deduction may apply.
Employer Responsibilities
Employers must report qualified overtime compensation on employees’ Form W-2. For 2025, the IRS will offer transition relief, allowing employers to use reasonable methods to estimate and report these amounts. Businesses should begin tracking overtime carefully to ensure compliance.
What This Means for You
For employees, this deduction could result in meaningful tax savings. For business owners, it’s essential to understand the reporting requirements and make sure payroll systems are prepared. As IRS guidance evolves, staying informed will be key to maximizing benefits and maintaining compliance.
To learn how Creative Planning Business Services can be of service, please schedule a call with a member of our team.
