You’ve probably heard that OBBA eliminates taxes on tips and overtime pay. Here’s what you need to know about how this is expected to work:

Overtime Pay

The general rule is that all compensation is subject to federal taxation. That’s true for regular pay, overtime, tips, bonuses, commissions, and any type of money an employee receives from the employer, unless specifically excluded. If an employee whose job is not exempt from overtime works more than 40 hours in a workweek, they’re supposed to be paid for those excess hours at a rate that’s 1.5x their normal hourly rate.

The OBBA allows workers to deduct up to $12,500 of overtime pay ($25,000 for joint filers) from their federal taxable income for tax years 2025-2028. The deduction is phased out when a taxpayer’s modified adjusted gross income exceeds $150,000 ($300,000 filing jointly). This deduction will be available to individuals who do not itemize.

This means that employers should continue to withhold taxes each payday on all compensation paid to an employee, but will need to report overtime pay separately on the Form W-2 for 2025 due by January 31, 2026. We’re awaiting guidance from the IRS on exactly where that overtime will show up on the W-2.

Tips

If you just read through the overtime pay section above, much of this will sound familiar.

Employees who customarily and regularly receive tips can deduct up to $25,000 in tips from their federal taxable income starting in 2025 and going through 2028. Phase out thresholds are the same for this deduction as for overtime – $150,000 of MAGI for individuals or $300,000 for those filing jointly. And the deduction is available to non-itemizers.

Employers will need to have a way to report the total amount of cash and non-cash (i.e., credit card) tips reported by an employee and the occupation of the employee beginning with the 2025 Form W-2 due January 31, 2026. And again, we’re awaiting further guidance from the IRS on exactly how this reporting will be done.

The Secretary of the Treasury is required to publish a list of occupations that normally receive tips by October 2, 2025.

Federal Taxable Income Only

These tax deductions only apply to federally taxable income, not state or local income. Normal withholding for all payroll taxes including Social Security and Medicare, continues to apply.