No Tax on Overtime: W-2 Reporting Changes You Should Know

The One Big Beautiful Bill Act, containing the no-tax-on-overtime provision and many other tax-reform measures, has been signed into law.

Not only is HR 1 vast, but parts of it are retroactive, and that includes the overtime provision, which is found in Section 70202.

The legislation adds a new section to the Internal Revenue Code (IRC) – it’s IRC Section 225. So now, employers are awaiting IRS guidance to fill in the details.

In the meantime, here are some key points about the new requirements.

Overtime Tax Deduction

For starters, no tax on overtime refers to federal income tax. That means employees will still owe Social Security tax and Medicare tax — not to mention applicable state and local taxes — on their OT compensation.

Important: Payroll should continue to withhold federal income tax from employees’ overtime pay.

Starting with tax year 2025 — i.e., W-2s due in 2026 — employers will be required to report overtime pay on Form W-2, Wage and Tax Statement. The legislation doesn’t indicate which box employers will use – you can expect that information from the IRS in the next several months.

With the W-2 data in hand, employees will be able to claim a tax deduction when they complete Form 1040, U.S. Individual Income Tax Return.

Notably, the overtime deduction will be available to both itemizers and those who take the standard deduction.

Beyond the W-2 information, an employee will need to include his or her Social Security number (SSN) on Form 1040. Plus, in the case of someone who’s married filing jointly, the tax return must also include his or her spouse’s SSN.

The Big Beautiful Bill Act sets limits on the tax deduction: $12,500 (or $25,000 if filing jointly). That amount would phase out when a taxpayer’s modified adjusted gross income (MAGI) exceeds $150,000 (or $300,000 if filing jointly). Specifically, for each $1,000 by which a taxpayer’s MAGI exceeds those amounts, the deduction will be reduced by $100.

Finally, the new deduction is available for the following tax years: 2025, 2026, 2027 and 2028.

Tax Year 2025 and Beyond

The new law includes a transition rule, applicable to tax year 2025. This transition rule allows employers to “approximate a separate accounting of amounts designated as qualified overtime compensation.” Look for the IRS to provide reasonable methods for taking advantage of this transition rule.

As for tax years 2026, 2027 and 2028, the Big Beautiful Bill calls for a modification of the withholding procedures, so that the OT deduction can be taken into account. So again, watch for details on this from the IRS.

The FLSA Connection

HR 1 uses the Fair Labor Standards Act’s (FLSA’s) definition of overtime, while excluding tips.

According to the FLSA, employees must be paid one-and-a-half times their regular rate of pay for hours worked in excess of 40 in a workweek, unless of course they’re exempt from the overtime pay requirements.

Although employers will need IRS guidance to know for sure how to adjust their payroll systems, the new law appears to state that overtime pay means 50% of the regular rate of pay – i.e., not the full 150%. After all, the law refers to qualified overtime compensation that’s “in excess of the regular rate.”

But what about an employer that has chosen to pay more than one-and-a-half times the regular rate of pay when an employee works overtime? HR 1 mentions qualified overtime compensation that’s “required” under Section 7 of the FLSA. That word seems to imply that voluntarily higher premiums wouldn’t be reported on Form W-2. However, employers should rely on confirmation from the IRS regarding this and all provisions of the One Big Beautiful Bill Act.