The Overtime Pay Deduction

From Bob Jennings at TaxSpeaker. Check out TAxSpeaker at taxspeaker.com

On July 4th, 2025 the President signed into law the One Big Beautiful Bill Act or BBB. One of the most troubling areas is the new individual deduction for overtime. In this week’s newsletter I thought I would discuss a few of the more troubling areas I am hearing about. The law is in brand new Code Section 225 and our discussion should begin by quoting the opening Section of the new law.

“There shall be allowed as a deduction an amount equal to the qualified overtime compensation received during the taxable year and included on statements furnished to the individual pursuant to section 6041(d)(4) (W2 requirement) or 6051(a)(19) (1099 requirement).”

This direct quote should immediately answer one of the most common mistakes of understanding, particularly in social media and blog posts. The employer must designate the qualified overtime amount. If the employer does not identify the amount the individual employee does not qualify for the deduction. Neither the employee nor the tax professional may estimate this amount! 

How should the employer designate the amount for the employee? We already know, as IRS has announced, that the 2025 W-2 will not be changed, but we also know that they have already announced that the qualified overtime will be noted in the 2026 W-2, Box 12 with Code TT for qualified overtime. This is not possible for 2025, so until the IRS provides more guidance we suggest using either W-2 Box 14 or a statement attached to the W-2.

On July 14th, 2025 the IRS released FS 2025-03 which also states that “Employers and other payors are required to file information returns with the IRS (or SSA) and furnish statements to taxpayers showing the total amount of qualified overtime compensation paid during the year.”  Again, we are awaiting IRS guidance on how the employer is supposed to report the amounts involved. The IRS statement also says “Effective for 2025 through 2028, individuals who receive qualified overtime compensation may deduct the pay that exceeds their regular rate of pay – such as the “half” portion of “time-and-a-half” compensation -- that is required by the Fair Labor Standards Act (FLSA) and that is reported on a Form W-2, Form 1099, or other specified statement furnished to the individual.” So again, a W-2 attachment should be enough this year.

The bigger question, with the most confusion is the determination of qualified overtime. Back to the law, in IRC Section 225(c)(1) the law states “For purposes of this section, the term “qualified overtime compensation” means overtime compensation paid to an individual required under section 7 of the Fair Labor Standards Act of 1938 that is in excess of the regular rate (as used in such section) at which such individual is employed.” 

This means that unless an individual is specifically not allowed to be paid an overtime amount according to the FLSA, that many salary based employees could be converted to hourly rates and then paid overtime according to FLSA at a rate of at least one and ½ times their base rate for excess hours in a forty hour week. So which employees may not be paid an overtime rate?

According to FLSA the following are ALWAYS exempt from the overtime requirement (thus cannot get the Overtime deduction): 

•    Computer analysts, programmers, software engineers paid at least $27.63 per hour

•    Outside salespeople

•    Lawyers

•    Doctors

•    Teachers

•    Commissioned employees of retail or service establishments

•    Railroad, air carrier, taxi drivers, employees of motor carriers, seaman

 •  Local delivery employees paid on tip rate plans

•    Announcers, news editors, chief engineers of certain non-metropolitan broadcasting stations

•    Domestic service workers living in employer’s residence

•    Employees of motion picture theaters

•    Farmworkers