by Emily J. Dilloway, Susan L. Oppenheimer, Attorneys, Bricker Graydon Wyatt LLP
The federal One Big Beautiful Bill Act (OBBBA) recently introduced a new tax benefit for employees who earn overtime. Although the public conversation has often framed this change as “no tax on overtime,” that is not an accurate description. The law does not eliminate taxes on overtime wages at the time they are paid. Instead, it creates a new above‑the‑line federal tax deduction for certain types of overtime earnings.
There are also misconceptions circulating that the law affects who is exempt from overtime or how overtime wages should be calculated. It does not. The law does, however, impose obligations on employers to track the portion of employees’ overtime wages that meets the definition of “Qualified Overtime Compensation” and to report that amount to employees and to the federal government.
This article will cover:
o How the new deduction operates
o What qualifies as “Qualified Overtime Compensation” (QOC)
o How to calculate QOC
o What the Fair Labor Standards Act (FLSA) continues to require
o Employers’ responsibilities under the new law
o A sample statement to give employees, explaining QOC
QOC Tax Deduction
Under OBBBA, employees can take an above-the-line federal tax deduction for QOC. The annual deduction is capped at $12,500 for single filers or $25,000 for joint filers and phased out for taxpayers with modified adjusted gross income over $150,000 for single filers or $300,000 for joint filers.
This deduction reduces taxable income, which in turn reduces the amount of federal income tax owed. It is not a tax exemption. Overtime wages are still taxed in real time through payroll withholding. The benefit for employees comes later—when the employee files their tax return.
How to Calculate QOC
According to recently released IRS guidance, QOC includes only the premium portion of overtime compensation that is required by Section 7 of the FLSA. This means:
- QOC does not include all overtime wages paid to an employee—only the premium portion (the half-time portion of time-and-a-half)
- QOC only includes the premium portion of overtime compensation mandated by the FLSA, i.e., premium pay for hours worked over 40 in a work week. It does not include other types of premium pay that may be required under a collective bargaining agreement or board policy.
Employers must be careful to distinguish between the following:
- FLSA overtime (hours > 40) → Eligible for deduction
- Employer‑created overtime rules (e.g., OT after 8 hours/day, weekend OT) → Not eligible
- Extra premiums (holiday pay) → Not eligible
The FLSA’s overtime rules are straightforward, and the OBBBA does not change them. Under the FLSA, employers must pay overtime at a rate not less than 1.5 times the non-exempt employee’s regular rate of pay for all hours worked over 40 in a single workweek. That’s it.
Here's an example calculation:
If an employee earns $20/hr and works 45 hours:
- Straight time: 45 × $20 = $900
- Overtime premium: 5 × $10 = $50
- Total pay: $950
- Qualified Overtime Compensation = $50 (only the premium portion)
The new law does not change the rules regarding who is exempt from overtime, nor does it provide any benefit to employees who are overtime-exempt. “Non-exempt” employees include most hourly workers such as custodians and cafeteria workers.
Employer Requirements
The OBBBA requires employers to determine QOC annually for employees who earn overtime compensation and to report the amount to the government and to the employee. The IRS has stated that there will be a box for QOC on the W-2 form for 2026.
For tax year 2025, the IRS has issued transition‑relief guidance because Forms W‑2 and 1099 will not yet contain dedicated boxes for reporting QOC. As a result, employers are not required to separately report qualified overtime compensation on the 2025 Form W‑2, and there will be no penalties for failing to do so. Employers may voluntarily assist employees by calculating the QOC amount for 2025 and including it in Box 14 of the W‑2 or by providing the information in a separate written statement or email.
Beginning in 2026, employers’ payroll systems should be set up to enable tracking of QOC, as a subset of total overtime compensation.
Otherwise, employers’ responsibilities with respect to overtime compensation remain largely unchanged. Employers must continue to withhold federal income tax on all wages, including overtime, just as they do now. They must also continue filing required information returns, such as W‑2 forms, and must ultimately provide employees with the total amount of compensation during the year.
Sample Message to Employees
Because employees who receive overtime pay may not understand why it is still subject to tax withholding or why the statement they receive regarding QOC shows a dollar amount that is less than total overtime compensation, treasurers may want to provide information to help employees understand the new law and what they can expect.
Here is a template explanatory message that can be provided to employees who are eligible for overtime:
Due to a change in federal law, a portion of your overtime pay known as “Qualified Overtime Compensation” may now be taken as a deduction when you file your federal income tax return. This change will reduce the amount of overtime pay ultimately subject to tax.
This is not a tax exemption; overtime will still be taxed. You will still see all of your overtime pay included in your gross wages on your paystub, and payroll will continue to withhold income tax from those wages just as it always has. The new rule simply gives you a deduction when you file your annual income tax return.
Beginning in 2026, at the end of each calendar year you will receive a statement from our office showing the portion of your overtime pay that counts as “Qualified Overtime Compensation,” so you will know the amount that is eligible for the tax deduction. Please note that the “Qualified Overtime Compensation” amount will be less than your total overtime wages.
If you have any questions about this, please contact our office.
Please note: This article is for informational purposes only and does not constitute legal advice. For more information, please contact your legal counsel.