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THE IRS JUST provided some guidance on how the tips and overtime deductions will work. I wanted to spend a few minutes going over the details so that you can learn how it would be reported on your taxes and share this with friends and family.
Overtime
As a reminder, the OBBBA created Section 225, which allows you to deduct qualified overtime compensation.
This deduction is capped at $12,500 per return ($25,000 for joint filers) and is subject to a phaseout based on modified adjusted gross income. The phaseout begins when MAGI exceeds $150,000 for single filers and $300,000 for joint filers.
In order to qualify for the overtime deduction, it must, among other requirements, be paid to an individual who is both covered by and not exempt from the FLSA (also called an FLSA-eligible employee).
Note that some FLSA-ineligible employees can be eligible for overtime under state law or paid premium rates for certain work (e.g. 2x rate on the weekends). However, the compensation paid to FLSA-ineligible employees is not qualified compensation for the purposes of this deduction.
Here’s the tricky part: employers aren’t required to account for qualified overtime compensation in 2025. They aren’t required to provide this information in Box 14 of Form W-2. They could, but they don’t have to. They will for future years, though.
This means that you must make a reasonable effort to determine:
• Whether you are considered an FLSA-eligible employee (ask your HR/employer). If you aren’t, you can’t take the deduction.
• Figure out the amount you can actually deduct if your employer doesn’t populate Box 14 of Form W-2.
Let’s go over some examples:
Overall, I’m sure a lot of people will make mistakes trying to figure out the overtime amounts…
The big thing to understand is the the overtime compensation deduction is just the 0.5x portion of the 1.5x rate, not the full 1.5x rate (hence why you divide by 3 in example #2)
Tips
Section 224 allows you to deduct qualified tips received during the taxable year and included on a statement furnished to you (a Form W-2) or reported using Form 4137.
The deduction is capped at $25,000 per year and is subject to an income-based phaseout. The $25,000 deduction phases out for taxpayers with MAGI over $150,000 ($300,000 for joint filers).
Modified adjusted gross income equals adjusted gross income (AGI) plus any amounts excluded under Sections 911, 931, or 933. For most people, MAGI equals AGI.
Section 224(d)(1) defines “qualified tips” as tips received by an individual in an occupation that customarily and regularly received tips on or before December 31, 2024. Sorry, CPAs.. you can’t get tipped $1,000 for that tax return you prepared. The Treasury provided a list of qualifying occupations (page 18 and onward).
Tips are also only qualified if they are received voluntarily, without any consequence in the event of nonpayment.
Here are some examples:
For both the overtime and tips deductions, make sure you have proof of how you’ve determined the amounts eligible for these deductions. Keep your W-2, payroll statements, forms, etc. They may come in handy if the IRS starts asking questions.
For the 2026 tax year, filed in 2027, it should be much simpler, especially for the overtime deduction, as employers will be required to provide OBBBA amounts on Form W-2.
Bogdan Sheremeta is a licensed CPA based in Illinois with experience at Deloitte and a Fortune 200 multinational.
Peculiar that the author, who purports to be educating us on finances, uses an acronymn, such as FLSA, without first spelling it out.
The FLSA is the Fair Labor Standards Act. It defines who is considered an “exempt employee” for purposes of determining who is eligible for overtime pay if working more than 40 hours in a workweek.
What is FLSA?
Bogdan, this makes me grateful that I sold my tax practice 4 years ago. In my volunteer work for AARP, I shouldn’t see too many tip and overtime returns.
In your Overtime Example 3, when a person has a total of $20,000 in OT and is paid overtime at 2x regular pay, it seems to me that the OT premium is $10,000. The person has $10,000 of regular pay and $10,000 of OT premium. Not the $5,000 that you show. Am I missing something?
Oh, I see now – FLSA qualifies overtime premium as ‘Pay up to 1/2 the regular rate that exceeds the regular rate of pay’. So for double-time pay, only the 1st 50% qualifies, hence the division by 4, not 2.
I agree Larry, should be $10,000 of OT premium.
Wow. Thanks Bogdan. As an outsider (Australian) the US tax system just blows my mind. I’ve got no idea how the “average Joe” navigates all this.