Analysis by Michael Baer
Employers will not be penalized for failing to provide their employees an accurate accounting of 2025 overtime and tip pay, and employees have several options for determining amounts that could be excluded from their taxable incomes for 2025, according to two November releases from the Internal Revenue Service (IRS Notices 2025-62 and 2025-69).
Provisions of the One Big Beautiful Bill Act
New tax provisions of the One Big Beautiful Bill Act (P.L. 119-21) carve out exceptions to federal tax for certain overtime pay and tip amounts received beginning January 1, 2025, until December 31, 2028. A reduction of up to $25,000 in annual modified adjusted gross income is now available to certain workers who receive overtime and/or tips.
From the law’s passage, what has been known is that employers are required under the law to report potentially qualified amounts to employees, and employers began scrambling to determine the appropriate amounts to report to employees under the law so that deductions could be made when the individuals file their tax returns for 2025 in early 2026.
Since the law was passed mid-year, legislative language recognized the difficulties employers and individuals could have in coming up with and reporting accurate amounts this year. Both the overtime and tip wage provisions include transition relief from penalties for not reporting correct amounts--deferring to the Treasury Secretary to provide that guidance for the 2025 tax year.
For overtime pay, the amounts that could qualify as tax-free are based on the “and-a-half” portion of time-and-a-half compensation required to be paid for work exceeding 40 hours in a work week under the federal Fair Labor Standards Act (FLSA).
That break-out for the “and-a-half” portion did not exist in payroll systems when the bill was passed into law. Systems generally reported as overtime the entire time-and-one-half amounts when accounting for overtime pay either internally or on payslips.
Further complicating the equation are more generous state overtime laws and other premium pay amounts (for example, daily overtime pay or double-time pay for working a holiday) that systems often roll into a single overtime pay amount. The new law limits the qualified amounts to only what would have been paid under the FLSA requirements, meaning different accumulators and reports have to be developed to meet the law’s reporting obligations.
For the tip income amounts that could be excluded, at least employers have mechanisms in place for accruing amounts and spaces on existing forms for reporting them under existing tax regulatory requirements. But, an additional complication for this tip provision of the OBBBA was in identifying the type of tipped worker by an occupation code to be developed by the Treasury Department. Also, tipped workers in certain types of “specified” service or trade businesses are not eligible for the tax benefit under the law, and there is confusion around that definition.
In August, the IRS announced there would be no changes to employment tax forms or withholding methods for the remainder of 2025, even though the law called for amounts to be reported by employers.
Proposed Treasury Regulations that included a draft list of occupation codes for tipped workers were published in September.
Penalty Relief for Employers
While it was generally understood that employers would be granted relief from not being able to accurately determine potentially qualified amounts and report them, it took until early November for the formal release of that guidance.
IRS Notice 2025-62 briefly describes the challenges employers and other payors are having in coming up with and reporting these potentially qualifying amounts to workers.
Broad relief from required reporting of the overtime and tip information to employees and to the government was granted for 2025 only.
In that document, the IRS suggested employers use box 14 of the existing Form W-2, Wage and Tax Statement, to report any 2025 overtime amounts that could qualify under the law. Otherwise, “employers and payors are encouraged to provide employees and payees with separate accountings of overtime compensation such that the employee or payee has the information the employee or payee needs to determine whether the employee or payee can claim the deduction for qualified overtime compensation.
Similarly, for the no taxes on tip provision, “employers and payors are encouraged to provide employees and payees, particularly those in a tipped occupation, with the occupation codes and separate accountings of cash tips,” so individuals have information to use to claim the deduction for 2025.
Guidance for Employees and Payees
A second IRS notice (Notice 2025-69) more directly addressed what amounts would be acceptable for individuals seeking to take advantage of either the overtime or tip tax benefit on their individual returns.
In this document, the Treasury Department and the IRS state that tipped workers and those receiving overtime pay “are determining their eligibility for the deduction for the first time.”
The notice provides several examples for determining amounts that could be excluded on the individual tax filing documents.
While primarily geared to what resources taxpayers can rely on when they are not given the appropriate amounts or information by employers or payors, some parts are instructional for employers.
IRS has recognized the confusion surrounding the term “specified service trade or business” related to the tip wage deduction and said, for 2025 only, tipped workers who happen to be working in those businesses will be able to claim the deduction for qualified tips.
Similarly, if no tip occupation code is made available to workers by employers or payors, workers can still qualify for the tax benefit in 2025. However, the employee is responsible for determining whether the tips received were while working in an occupation that customarily and regularly receives tips.
Resources tipped workers can use to determine amounts to claim for the deduction include:
-
social security tips reported in box 7 of the Form W-2;
-
the total amount of tips reported by the employee to the employer on all Forms 4070, Employee’s Report of Tips to Employer;
-
the employer’s report to the employee of the amount, possibly in box 14 of Form W-2, or in a separate statement, or
-
“any amount listed on line 4 of the 2025 Form 4137 filed with the employee’s 2025 income tax return (and included as income on that return).
For those claiming the deduction for overtime pay, the latest notice clarifies that those who are not covered or exempt from the FLSA’s overtime requirement are not eligible for the tax deduction for overtime pay.
According to the notice, FLSA-eligible individuals who are not furnished a separate accounting of qualified overtime compensation in box 14 of Form W-2 (or on a separate statement), and are not provided any “and-a-half” time breakout in other statements, may determine the amount of qualified overtime compensation by approximating the FLSA premium amount by:
-
using any aggregate time-and-a-half dollar amount provided and dividing it by one-third;
-
using any aggregate overtime paid at a rate of two times the regular rate (regardless of whether this is not the appropriate FLSA-qualified amount), and dividing the additional pay by one-half; or
-
using “an appropriately smaller fraction” for other mixes of premium pay and overtime.
Importantly, the notice addresses the different FLSA requirements for overtime in certain sectors, such as public law enforcement and firefighting, public workers receiving compensatory time in lieu of overtime pay, and in health care/nursing environments. Examples are included to help individuals in these roles claim the deduction.
On to 2026: Communication and More Guidance
For 2026, additional finalized guidance will be issued for employers and employees, and changed tax forms will account for the new amounts and codes to be reported accurately and not estimated. Employers should expect to report accumulated amounts timely to workers for 2026 and no penalty relief.
There is a chance federal tax withholding adjustments that account for these two provisions will be promulgated.
In the meantime, employers are bracing for questions from workers on these new provisions. In the United States, businesses in general and payroll professionals in particular are not to attempt to provide personal tax advice to workers.
Appropriate communication guidelines for payroll and other administrative staff should center on explaining how the employer is meeting its obligations under the law, and steering workers to published IRS guidance to make their own choices regarding how they will claim the new tax deduction.
Analysis by Michael Baer
Employers will not be penalized for failing to provide their employees an accurate accounting of 2025 overtime and tip pay, and employees have several options for determining amounts that could be excluded from their taxable incomes for 2025, according to two November releases from the Internal Revenue Service (IRS Notices 2025-62 and 2025-69).
Provisions of the One Big Beautiful Bill Act
New tax provisions of the One Big Beautiful Bill Act (P.L. 119-21) carve out exceptions to federal tax for certain overtime pay and tip amounts received beginning January 1, 2025, until December 31, 2028. A reduction of up to $25,000 in annual modified adjusted gross income is now available to certain workers who receive overtime and/or tips.
From the law’s passage, what has been known is that employers are required under the law to report potentially qualified amounts to employees, and employers began scrambling to determine the appropriate amounts to report to employees under the law so that deductions could be made when the individuals file their tax returns for 2025 in early 2026.
Since the law was passed mid-year, legislative language recognized the difficulties employers and individuals could have in coming up with and reporting accurate amounts this year. Both the overtime and tip wage provisions include transition relief from penalties for not reporting correct amounts--deferring to the Treasury Secretary to provide that guidance for the 2025 tax year.
For overtime pay, the amounts that could qualify as tax-free are based on the “and-a-half” portion of time-and-a-half compensation required to be paid for work exceeding 40 hours in a work week under the federal Fair Labor Standards Act (FLSA).
That break-out for the “and-a-half” portion did not exist in payroll systems when the bill was passed into law. Systems generally reported as overtime the entire time-and-one-half amounts when accounting for overtime pay either internally or on payslips.
Further complicating the equation are more generous state overtime laws and other premium pay amounts (for example, daily overtime pay or double-time pay for working a holiday) that systems often roll into a single overtime pay amount. The new law limits the qualified amounts to only what would have been paid under the FLSA requirements, meaning different accumulators and reports have to be developed to meet the law’s reporting obligations.
For the tip income amounts that could be excluded, at least employers have mechanisms in place for accruing amounts and spaces on existing forms for reporting them under existing tax regulatory requirements. But, an additional complication for this tip provision of the OBBBA was in identifying the type of tipped worker by an occupation code to be developed by the Treasury Department. Also, tipped workers in certain types of “specified” service or trade businesses are not eligible for the tax benefit under the law, and there is confusion around that definition.
In August, the IRS announced there would be no changes to employment tax forms or withholding methods for the remainder of 2025, even though the law called for amounts to be reported by employers.
Proposed Treasury Regulations that included a draft list of occupation codes for tipped workers were published in September.
Penalty Relief for Employers
While it was generally understood that employers would be granted relief from not being able to accurately determine potentially qualified amounts and report them, it took until early November for the formal release of that guidance.
IRS Notice 2025-62 briefly describes the challenges employers and other payors are having in coming up with and reporting these potentially qualifying amounts to workers.
Broad relief from required reporting of the overtime and tip information to employees and to the government was granted for 2025 only.
In that document, the IRS suggested employers use box 14 of the existing Form W-2, Wage and Tax Statement, to report any 2025 overtime amounts that could qualify under the law. Otherwise, “employers and payors are encouraged to provide employees and payees with separate accountings of overtime compensation such that the employee or payee has the information the employee or payee needs to determine whether the employee or payee can claim the deduction for qualified overtime compensation.
Similarly, for the no taxes on tip provision, “employers and payors are encouraged to provide employees and payees, particularly those in a tipped occupation, with the occupation codes and separate accountings of cash tips,” so individuals have information to use to claim the deduction for 2025.
Guidance for Employees and Payees
A second IRS notice (Notice 2025-69) more directly addressed what amounts would be acceptable for individuals seeking to take advantage of either the overtime or tip tax benefit on their individual returns.
In this document, the Treasury Department and the IRS state that tipped workers and those receiving overtime pay “are determining their eligibility for the deduction for the first time.”
The notice provides several examples for determining amounts that could be excluded on the individual tax filing documents.
While primarily geared to what resources taxpayers can rely on when they are not given the appropriate amounts or information by employers or payors, some parts are instructional for employers.
IRS has recognized the confusion surrounding the term “specified service trade or business” related to the tip wage deduction and said, for 2025 only, tipped workers who happen to be working in those businesses will be able to claim the deduction for qualified tips.
Similarly, if no tip occupation code is made available to workers by employers or payors, workers can still qualify for the tax benefit in 2025. However, the employee is responsible for determining whether the tips received were while working in an occupation that customarily and regularly receives tips.
Resources tipped workers can use to determine amounts to claim for the deduction include:
-
social security tips reported in box 7 of the Form W-2;
-
the total amount of tips reported by the employee to the employer on all Forms 4070, Employee’s Report of Tips to Employer;
-
the employer’s report to the employee of the amount, possibly in box 14 of Form W-2, or in a separate statement, or
-
“any amount listed on line 4 of the 2025 Form 4137 filed with the employee’s 2025 income tax return (and included as income on that return).
For those claiming the deduction for overtime pay, the latest notice clarifies that those who are not covered or exempt from the FLSA’s overtime requirement are not eligible for the tax deduction for overtime pay.
According to the notice, FLSA-eligible individuals who are not furnished a separate accounting of qualified overtime compensation in box 14 of Form W-2 (or on a separate statement), and are not provided any “and-a-half” time breakout in other statements, may determine the amount of qualified overtime compensation by approximating the FLSA premium amount by:
-
using any aggregate time-and-a-half dollar amount provided and dividing it by one-third;
-
using any aggregate overtime paid at a rate of two times the regular rate (regardless of whether this is not the appropriate FLSA-qualified amount), and dividing the additional pay by one-half; or
-
using “an appropriately smaller fraction” for other mixes of premium pay and overtime.
Importantly, the notice addresses the different FLSA requirements for overtime in certain sectors, such as public law enforcement and firefighting, public workers receiving compensatory time in lieu of overtime pay, and in health care/nursing environments. Examples are included to help individuals in these roles claim the deduction.
On to 2026: Communication and More Guidance
For 2026, additional finalized guidance will be issued for employers and employees, and changed tax forms will account for the new amounts and codes to be reported accurately and not estimated. Employers should expect to report accumulated amounts timely to workers for 2026 and no penalty relief.
There is a chance federal tax withholding adjustments that account for these two provisions will be promulgated.
In the meantime, employers are bracing for questions from workers on these new provisions. In the United States, businesses in general and payroll professionals in particular are not to attempt to provide personal tax advice to workers.
Appropriate communication guidelines for payroll and other administrative staff should center on explaining how the employer is meeting its obligations under the law, and steering workers to published IRS guidance to make their own choices regarding how they will claim the new tax deduction.
