No Tax on Overtime Deduction: How the 2025-2028 Tax Break Works

Overview

What Is the No Tax on Overtime Deduction?

The no tax on overtime deduction is a federal income tax break created by the One Big Beautiful Bill Act, signed into law on July 4, 2025. The provision lets eligible workers subtract a portion of their overtime pay from federal taxable income when they file their return. The deduction is retroactive to January 1, 2025, and runs through December 31, 2028.

The deduction is a below-the-line tax deduction. It reduces taxable income but does not reduce adjusted gross income, and it is available whether the taxpayer takes the standard deduction or itemizes. It is not a refundable credit, so a worker whose income is already below the standard deduction threshold gets no additional benefit from it.

The deduction applies only to the federal income tax portion of an overtime paycheck. Social Security, Medicare, and most state income taxes are calculated separately and continue to apply to the full overtime amount. This is general information, not tax advice.

Qualified Overtime

What Overtime Pay Actually Qualifies for the Deduction?

Only the premium portion of overtime pay qualifies. Under the Fair Labor Standards Act, non-exempt employees must receive at least one and one-half times their regular rate of pay for hours worked over 40 in a workweek. The deduction applies to the extra half, not to the full time-and-a-half payment.

The IRS defines qualified overtime compensation as the amount required by FLSA Section 7 that exceeds the employee's regular rate of pay. The math for a typical worker looks like this:

• FLSA overtime hours in the workweek (hours over 40) times
• one-half times
• the employee's regular hourly rate

A workweek is a fixed, regularly recurring 168-hour period, and hours are counted workweek by workweek. Averaging hours across two or more workweeks is not allowed.

Overtime that is paid under state law, a collective bargaining agreement, or an employer's internal policy but is not required by FLSA does not qualify. Daily overtime paid under California law, for example, is not covered by the federal deduction if it is not also required by the federal FLSA.

Eligibility

Who Is Eligible to Claim the Deduction?

To claim the no tax on overtime deduction, a worker must meet several tests. All of these must be satisfied on the return that claims the deduction:

• FLSA-covered non-exempt status. The worker must earn overtime under the federal FLSA. Salaried employees who are FLSA-exempt executives, administrators, or professionals do not qualify because they are not owed FLSA overtime.
• Valid Social Security number. The worker, and a spouse if filing jointly, must have a valid SSN issued by the Social Security Administration. Individual Taxpayer Identification Numbers do not qualify.
• Joint return if married. A married worker must file jointly to claim the deduction. Married filing separately is not eligible.
• Below the phase-out ceiling. Modified adjusted gross income must be below the fully-phased-out level for the filer's status.

Both W-2 employees and self-employed workers can generate qualified overtime, but the deduction is focused on FLSA-required premium pay. Independent contractors who set their own hours and are not covered by FLSA cannot claim the deduction on freelance income.

Deduction Amount

How Much Can You Actually Deduct in a Single Year?

The annual cap is $12,500 for single, head-of-household, and married-filing-separately filers, and $25,000 on a joint return. The joint amount is a combined household limit, not $25,000 per spouse. If both spouses earn qualified overtime, their combined deduction is still capped at $25,000.

The deduction phases out for higher earners:

• Single filers: phase-out begins at $150,000 MAGI.
• Married filing jointly: phase-out begins at $300,000 MAGI.

The reduction is $100 for every $1,000 of MAGI above the applicable threshold. Following that formula, a filer entitled to the full cap is fully phased out at:

• Single: $275,000 MAGI ($150,000 threshold plus $125,000).
• Married filing jointly: $550,000 MAGI ($300,000 threshold plus $250,000).

Filers with smaller amounts of qualified overtime can be fully phased out before reaching those top numbers, because the $100-per-$1,000 reduction is applied first and then compared against the smaller starting deduction.

Payroll Taxes

Does the Deduction Reduce FICA or State Tax on Overtime?

No. The deduction applies only to the federal income tax that is calculated at the end of the year on the tax return. It does not reduce the payroll taxes that come out of each paycheck, and it does not automatically reduce state income tax.

• Social Security tax at 6.2% still applies to overtime up to the annual Social Security wage base.
• Medicare tax at 1.45% still applies to all overtime, with an extra 0.9% on combined wages above $200,000 for single filers or $250,000 for joint filers.
• Employer FICA match is unchanged. Employers still pay their 6.2% Social Security and 1.45% Medicare share on the full overtime amount.
• Self-employment tax of 15.3% on net earnings is unaffected.

State income tax treatment depends on whether the state adopts the federal deduction. States that use rolling conformity to the Internal Revenue Code and begin their calculation from federal taxable income may pick up the deduction automatically. Static-conformity states may need to pass a specific conformity bill before the deduction flows through to state tax. No-income-tax states do not tax wage income at all, so the federal deduction has no state impact there.

Deduction for a Single Worker with 10 Overtime Hours a Week (2026)

How the deduction works for a single FLSA non-exempt worker earning $30 per hour, working 10 overtime hours per week for 50 weeks in 2026.

Filing Steps

How Do You Claim the Deduction on Your Federal Return?

The IRS introduced Schedule 1-A for the 2025 tax year to calculate and report the deduction. The general filing flow is:

1. Confirm the qualified overtime amount. For 2026 and later returns, employers report this figure on Form W-2, Box 12, using code TT. For 2025 returns, the amount may appear in Box 14 or on a separate employer statement, or the worker may need to calculate it using the Schedule 1-A instructions.
2. Complete Schedule 1-A. Enter the smaller of qualified overtime, the applicable cap, or the phase-out-reduced amount.
3. Apply the MAGI phase-out reduction if income exceeds the threshold for the filing status.
4. Transfer the final deduction amount to the designated line on Form 1040.

The deduction can be claimed alongside the standard deduction or itemized deductions. A worker who forgot to claim the deduction on an original return can file Form 1040-X to amend within the normal three-year window.

Records to keep include pay stubs showing overtime hours and premium pay, employer overtime reports, and Form W-2 or the equivalent 1099.

Employer Reporting

What Are the 2026 W-2 Reporting Rules for Employers?

For tax year 2026 and later, employers must separately report qualified overtime compensation in Box 12 of Form W-2 using code TT. The reported figure is the FLSA-required premium in excess of the regular rate, not the total time-and-a-half amount.

The IRS provided transition relief for 2025 that allowed employers to skip separate reporting, place the amount in Box 14, or attach a separate statement without penalty. That relief did not extend beyond tax year 2025, so employers must have Box 12 code TT reporting in place for 2026 W-2s issued in early 2027.

An employer that reports an incorrect amount or misses the code TT line must issue Form W-2c and provide a corrected copy to the employee promptly. Late or incorrect information returns can trigger information-reporting penalties, though timely corrections generally reduce them.

Employers with FLSA-covered non-exempt workforces should coordinate with their payroll provider before the first 2026 pay run to make sure the time-and-a-half calculation, the workweek definition, and the Box 12 mapping are all configured.

Expiration

When Does the No Tax on Overtime Deduction Expire?

The deduction is temporary. It covers tax years 2025, 2026, 2027, and 2028 only. After December 31, 2028, overtime pay returns to being fully taxable at ordinary federal income tax rates unless Congress passes an extension or makes the provision permanent. No extension bill has been introduced as of mid-2026.

Because the statute is retroactive to January 1, 2025, workers who earned FLSA overtime in early 2025, before the law was signed, can still claim the deduction on their 2025 return without filing an amended return specifically for the retroactive period.

Workers whose employment status changes during a year, such as moving from an hourly non-exempt role to a salaried exempt role, can only claim the deduction on the qualified overtime earned while they were FLSA non-exempt. Overtime-style extra pay earned in an exempt role is not FLSA-required overtime and does not qualify.