You may have seen headlines claiming there is “no tax on overtime” following the passage of the One Big Beautiful Bill Act. While that phrase is misleading, there is a new federal tax deduction related to overtime pay — and understanding how it actually works matters.
Starting with the 2025 tax year (filed in 2026), eligible workers may be able to deduct a portion of their overtime earnings when filing their federal tax return.
What Is the Overtime Deduction?
The overtime deduction allows qualifying taxpayers to reduce their taxable income based on certain overtime compensation they earned during the year.
This deduction:
- Applies to federal income tax only
- Does not eliminate payroll taxes such as Social Security or Medicare
- Is claimed when you file your tax return, not on your paycheck
How the Overtime Deduction Actually Works
Overtime pay is typically higher than regular pay because it includes an added premium, often referred to as “time-and-a-half.”
Under the new rule, the IRS looks at the difference between your regular pay and your overtime pay. That difference — called the overtime premium — is what the deduction is based on, not the full overtime paycheck.
Real-World Example: Overtime Premium Explained
Let’s say someone earns $20 per hour as their regular rate.
When they work overtime, they earn $30 per hour.
- Regular pay: $20/hour
- Overtime pay: $30/hour
- Overtime premium: $10/hour
That $10 difference is the portion considered for the overtime deduction.
If this person worked 100 overtime hours during the year:
- $10 × 100 hours = $1,000
That $1,000 is the amount considered for the overtime deduction (subject to income limits and annual caps).
This deduction reduces taxable income when the tax return is filed. It does not change how the paycheck is issued and does not remove payroll taxes.
Who May Qualify
You may be eligible for the overtime deduction if:
- You earned qualified overtime compensation
- You file a federal tax return with a valid SSN or ITIN
- Your income falls within the allowed limits
In most cases, married taxpayers must file jointly to claim the deduction.
Deduction Limits and Income Phaseouts
The deduction is subject to annual caps:
- Up to $12,500 for single filers
- Up to $25,000 for married filing jointly
The deduction begins to phase out at higher income levels, with the intent of targeting low- and middle-income workers.
Important Things to Know
- This is a deduction, not a credit
- It reduces taxable income, not total earnings
- Payroll taxes still apply
- The provision is currently scheduled to apply for 2025 through 2028, unless extended
- IRS guidance explains how qualified overtime compensation is calculated and reported
Verify It Yourself
The IRS has published official guidance explaining how the overtime deduction works, including eligibility requirements, limits, and calculation details.
You can review this directly on the IRS website under their guidance on Qualified Overtime Compensation.
Final Thoughts
The new overtime deduction may benefit workers who regularly earn overtime pay, but it’s often misunderstood. The deduction is based on the overtime premium, not the entire overtime amount, and eligibility depends on income and filing status.
Understanding how it works helps set realistic expectations and prevents confusion at tax time. If you have questions or you’re unsure of how this works, please don’t hesitate to reach out and have your tax documents reviewed at no cost.
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