The much-anticipated “No Tax on Overtime” provision officially starts retroactively on January 1, 2025, following the July 4, 2025 signing of the One Big Beautiful Bill (OBBB) by President Trump. This landmark legislation introduces a federal income tax deduction on qualified overtime pay for eligible workers, marking a significant shift in how overtime earnings are taxed at the federal level.
The “No Tax on Overtime” provision allows employees who earn below certain income thresholds to deduct up to $12,500 in qualified overtime compensation ($25,000 for joint filers) from their federal taxable income for the 2025 tax year onward. The deduction is effective through 2028 and applies to overtime pay earned from January 1, 2025, enabling workers to claim these savings on their 2025 tax returns even though the law was enacted mid-year. This retrospective application means that employees who have already logged overtime hours this year may benefit when they file their taxes, potentially lowering their federal tax burden.
It is important to clarify that this tax break does not eliminate all taxes on overtime pay. While it exempts a portion of the federal income tax on the overtime rate (typically the “half” portion of the time-and-a-half premium as stipulated by the Fair Labor Standards Act), payroll taxes like Social Security and Medicare remain applicable. Thus, contributions to these programs are unaffected to protect future benefits.
Who qualifies for this deduction? Mainly, hourly workers classified as non-exempt under FLSA who work over 40 hours a week and receive overtime pay at a rate not less than one and a half times their regular wage qualify. Some salaried employees who meet criteria for overtime eligibility and earn less than $150,000 annually may also benefit. The deduction phases out gradually for incomes exceeding this threshold, so higher earners receive a reduced benefit or none at all.
Employers are required to report qualified overtime earnings separately on employees’ W-2 forms, marking a change from prior practice where overtime was aggregated with regular wages. For the 2025 tax year, employers may use reasonable methods to approximate this reporting as the IRS prepares more detailed guidance.
To summarize some key points of the No Tax on Overtime provision:
- Effective Date: Retroactive to January 1, 2025, and valid through 2028.
- Deduction Limits: Up to $12,500 per individual, $25,000 jointly.
- Income Threshold: Begins to phase out at $150,000 annual income ($300,000 joint).
- Tax Scope: Applies to federal income tax only; payroll taxes still apply.
- Who Benefits: Primarily hourly non-exempt workers; some salaried workers under income limits.
- Reporting Changes: Employers must track and report qualified overtime separately on Form W-2.
This change supports workers by reducing their tax burden on overtime pay, potentially encouraging extra work hours without the heavy tax penalty previously associated with overtime earnings. Businesses involved must update payroll systems and ensure compliance with the new reporting rules.
If you currently work overtime or manage payroll, it’s advisable to consult a tax professional or payroll expert to understand how these changes will affect your paychecks and tax filings. Monitoring IRS announcements is also recommended as further details and guidance evolve.
Stay informed about the final nuances of this important provision and share your thoughts or questions here—your experience with overtime pay taxation could be valuable to others navigating the same changes.