No Tax On Overtime Explained

Below is a breakdown of how it works, based on recent IRS guidance and related explanations.

What Qualifies as Overtime Pay Under This Rule?

• The deduction applies specifically to qualified overtime compensation as defined by the Fair Labor Standards Act (FLSA). This typically means pay for hours worked beyond 40 in a workweek (or other thresholds under FLSA rules).

• Importantly, it’s not the full overtime amount that’s deductible—only the premium portion exceeding your regular hourly rate. For example:

  • If your regular rate is $20/hour, overtime is usually “time and a half” ($30/hour total).

  • The deductible part is the extra $10/hour (the “half”), not the full $30.

• This must be reported by your employer on your Form W-2, Form 1099, or another specified statement. Employers are required to track and report this separately starting in 2025.

  Below is a picture of the W-2 sample for 2025 (if you are a W-2 earner you will be receiving this). The qualified overtime you earned is expected to be reported in box 14 below with the symbols “OT or TT” next to it.

Deduction Limits

• Maximum amount: Up to $12,500 per year for single filers (or head of household). For married couples filing jointly, it’s up to $25,000.

• This is an above-the-line deduction, meaning it reduces your adjusted gross income (AGI) directly—you don’t need to itemize to claim it, and it can benefit those taking the standard deduction.

• It’s not unlimited; the cap applies to the total premium overtime earned in the year.

Income Phase-Outs

• The deduction begins to phase out (reduce gradually) for higher earners:

  • Single filers: Starts at modified AGI over $150,000.

  • Joint filers: Starts at modified AGI over $300,000.

• Above these thresholds, the available deduction decreases until it’s fully phased out (exact phase-out range isn’t detailed in initial guidance but follows standard IRS formulas for similar deductions).

  The phase-out for the overtime pay tax deduction (under the One Big Beautiful Bill Act) is designed to gradually reduce the available deduction for higher earners based on their modified adjusted gross income (MAGI). This ensures the benefit primarily targets middle-income workers while limiting it for those with higher earnings.

What Taxes Does It Affect?

• This makes the qualified premium overtime exempt from federal income tax up to the limits (after phase-outs).

• However, it’s not fully tax-free:

  • Still subject to payroll taxes (Social Security, Medicare—about 7.65% for employees, plus employer share).

  • May still be taxed at the state and local level, depending on your location (some states may align with federal rules, others won’t).

  • Not exempt from federal self-employment taxes if you’re an independent contractor.

• Net effect: For many workers, this could save hundreds to thousands in federal taxes, depending on your tax bracket and overtime earned. For instance, in the 22% bracket, deducting $12,500 could save about $2,750.

Eligibility and How to Claim It

• Who can claim it? Hourly workers (or salaried if eligible under FLSA) who earn qualified overtime. You must include your Social Security Number on your tax return. If married, you must file jointly to qualify.

• Gig workers or contractors: May qualify if the pay meets FLSA overtime definitions and is properly reported.

• Exclusions: Doesn’t apply to bonuses, commissions, or other non-overtime extra pay. Salaried exempt employees (e.g., managers) generally don’t qualify for FLSA overtime.

• Claiming process: On your federal tax return (Form 1040), you’ll report it as an adjustment to income. The IRS provides transition relief for 2025, meaning minor reporting errors won’t disqualify you if made in good faith.

• Check with your employer or tax software (like TaxAct or H&R Block) for how it’s reflected on pay stubs—some may adjust withholding, but others won’t, so you might need to update your W-4 to avoid overpaying during the year.

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If you or someone you know have any questions relating to the taxation over their overtime, do not hesitate to reach out at www.passelliaccountingservicesllc.com or 561-386-3997.