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The “no tax on overtime” provision in the recently enacted “One Big Beautiful Bill” is expected to put more money in the pockets of 20 million overtime-eligible workers. The tax change will also bring about additional payroll processing, payroll tax and payroll compliance changes for human resource professionals.
Here’s a how-to guide to help small and mid-sized businesses understand and navigate the new tax law.
The “no tax on overtime” is a tax deduction, not an exemption. The new provision, which sunsets in 2028, allows eligible employees – generally, but not always, those who are paid hourly – to deduct qualifying overtime compensation from their federal taxable income on their annual tax returns.
Further, “overtime” in the new ruling is defined not as the full-time-and-a-half pay employees typically receive for working longer hours, but rather as the extra compensation they receive over and above their normal wages.
The overtime change is retroactive to Jan. 1, 2025, so eligible workers can deduct qualifying overtime on their 2025 tax returns. This is a temporary tax deduction that workers can claim on their 2025-2028 income tax returns.
The law allows workers to deduct up to $12,500, or $25,000 for married couples filing jointly. For people who earn more than $150,000 in individual income, the deduction phases out incrementally.
💡Tip: “No tax on overtime” is federal legislation. State overtime taxation may be different.
Keeping good employee records and accurately determining which employees are eligible for overtime will help small businesses comply with the law.
Generally, employees who meet the criteria below are eligible for the overtime exemption:
Most salaried professionals are exempt and won’t qualify, but these salaried roles meet the criteria:
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The new overtime pay tax rules add compliance responsibilities to small business operations. The immediate concerns include ensuring overtime-eligible workers are classified correctly and that overtime records are accurate back to Jan. 1, 2025.
Companies can anticipate a demand for employee reclassifications or staffing shifts and ongoing employee inquiries about the new tax law.
In addition to properly classifying employees and maintaining accurate overtime records, employers must also comply with new reporting rules.
Specifically, employers are required to separately track and report the amount of qualified overtime compensation on each employee’s Form W-2. This means overtime premiums must be reported distinctly from regular wages.
The IRS is expected to release further guidance on the exact mechanics of this reporting requirement. Until then, employers should ensure their payroll systems are set up to track overtime pay separately so they are prepared to meet the new standard.
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Federal tax law changes can overburden small businesses. Companies that outsource their payroll administration to Axcet HR Solutions, a certified professional employer organization, can rest assured they are compliant with ever-changing state and federal tax laws. To manage the requirements of the new “no tax on overtime” and other federal pay regulations, schedule a consultation today.
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