IRS Guidance on Overtime and Tip Deductions for 2025

The One Big Beautiful Bill (OBBB) introduced new deductions for qualified overtime and tip income, effective for tax years beginning after December 31, 2024, and before January 1, 2029. We would like to share recent IRS guidance which outlines both employer and employee requirements related to the calculation and reporting of these amounts for 2025.

Overtime Deduction

For tax years 2025–2028, taxpayers may deduct up to $12,500 ($25,000 for joint filers) of qualified overtime compensation, subject to phaseout for modified adjusted gross income (MAGI) above $150,000 ($300,000 for joint filers). Married taxpayers must file jointly to claim the deduction. Both itemizers and non-itemizers are eligible.

Qualified overtime compensation refers to the portion of overtime pay required under the Fair Labor Standards Act (FLSA) that exceeds the regular rate of pay—essentially the “half” in time-and-a-half.

Example: An hourly employee earning $20/hour works 10 overtime hours at $30/hour, totaling $300. Of this, $200 reflects regular pay and is not deductible; only the $100 premium qualifies.

Employer Reporting

Employers must report qualified overtime compensation on employees’ W-2 forms. Businesses must also report this information for non-employees on applicable 1099 forms. For 2025, because forms will not be updated, employers and payors may use any reasonable method specified by the IRS to approximate and report qualified overtime compensation such as:

• Identifying the FLSA overtime premium (the “half” portion of “time-and-a-half”) directly from payroll data.

• If only total aggregate overtime pay is available, estimating the premium by dividing by 3 (time-and-a-half) or by 4 (double-time).
• Applying proportional calculations for special FLSA rules.

Employers are encouraged (but not required) to provide employees with a separate accounting of qualified overtime compensation, such as through a supplemental statement, an online portal, or Box 14 of the W-2.  Providing a supplemental statement or letter to employees is advised if the exact figure is uncertain.

Employee Calculations: When qualified overtime compensation is not provided in box 14 of Form W-2 or on a separate statement, employees can calculate their own qualified overtime using earnings or pay statements, invoices, or similar documents, applying a reasonable method.

Tip Deduction

Individuals in occupations that customarily received tips before December 31, 2024, may deduct up to $25,000 annually, subject to phaseout for MAGI above $150,000 ($300,000 for joint filers).

For 2025, separate reporting of qualified tips and occupation on W-2 is not mandatory; employers should use reasonable methods to track and approximate tip amounts and are encouraged to use Box 14 or supplemental statements to communicate this information to employees.  Employers should be preparing for mandatory reporting in 2026.

For 2025, employees can determine qualified tips using:

• Social Security tips reported in Box 7 of Form W-2.
• Tips reported on Forms 4070.
• Cash tips shown in Box 14 or supplemental statements.
• Amounts from Form 4137 filed with their tax return and included as income.

Note. Employees are responsible for determining if their occupation is one that customarily and regularly received tips on or before December 31, 2024.

Non-employees may rely on amounts reported on Forms 1099-MISC, 1099-NEC, or 1099-K and supporting documentation such as receipts or tip logs.

The IRS has provided penalty relief for 2025 for good faith errors or omissions related to the new reporting fields. 

As always, should you have questions on this or other matters affecting you or your business, please call 215.675.8364 or email us to speak with a CPA today.

DISCLAIMER: All communications by Wouch, Maloney & Co., LLP intend to provide general information, as of the date of the communication, and may reference information from reputable sources. Although our firm has made every reasonable effort to ensure that the information provided is accurate, we make no warranties, expressed or implied, on the information provided. Please be aware that this is not a comprehensive analysis of the subject matter covered and is not intended to provide specific recommendations to you or your business with respect to the matters addressed.