Need to know: Employer Obligations and Complications around the OT Tax Deduction
With the introduction of the Big Beautiful Bill, certain employees may now be eligible to claim federal tax deductions related to qualified overtime earnings, provided they meet specific criteria.
Importantly, determining employee eligibility for the deduction, how it applies to an individual’s tax situation, or how it should be claimed is not the employer’s responsibility — and employers are strongly discouraged from taking on that role. Any guidance beyond accurate payroll reporting creates unnecessary risk.
That said, while employers have nothing to gain directly from this tax change, the legislation does impose new payroll tracking and reporting obligations to support employee access to the savings. Those requirements are more nuanced than they may initially appear.
Below is a practical overview of what employers should understand and begin addressing now to remain compliant for 2025 and beyond.
What Has Not Changed
Nothing changes about how payroll taxes are calculated or withheld during the year.
Employees continue to be taxed as usual on each paycheck
Employers continue to withhold and remit taxes normally
There is no reduction or adjustment to weekly payroll taxes
Any eligible tax benefit is addressed by the employee at year end when they file their personal tax return.
What Has Changed: Reporting Requirements
Employers are required to accurately track and report “qualified overtime compensation” beginning in 2025, for as long as the program remains in effect (currently through 2028).
2025 Transition Rule
Because the administrative infrastructure was not fully in place prior to the end of the 2025 tax year, formal reporting requirements are temporarily relaxed.
For the 2025 tax year only (after this, formal reporting should be working), employers must provide employees with their total qualified overtime compensation using a reasonable method as defined by the U.S. Secretary of the Treasury. Acceptable methods include:
Reporting the amount in Box 14 of the Form W-2
Providing a separate year-end statement (created by you that is accurate)
Making the information available through an employee self-service portal
(employees must be informed where to access it)
What Overtime Is Actually Eligible
This is the area most employers are likely to get wrong.
Only FLSA-mandated overtime qualifies
Eligible overtime is limited to:
Hours worked over 40 in a single workweek, and
Only the premium portion required by the FLSA
Note: this means only ”non-exempt” employees are eligible- the only ones who are overtime eligible under the FLSA.
Only the “half-time” portion is eligible
Because FLSA overtime is paid at 1.5× the “regular rate”, only the additional 0.5× portion is considered qualified overtime compensation.
Example:
Regular rate: $20/hour
Overtime rate: $30/hour (note, if bonuses or other non-discretionary pay bonuses exist this calculation may be more complex)
Eligible amount for reporting: $10/hour
(the half-time premium only — not the full $30)
This is not how overtime is typically reported on pay stubs, which means most employers will need to create a new payroll earnings code to track this correctly.
What Does Not Count as Eligible Overtime
Any overtime or premium pay that is not required by the FLSA must be excluded, including:
Daily overtime (e.g., over 8 hours in a day)
Weekend or Saturday overtime (when paid regardless of working over 40 total hours in the workweek)
Premium pay based on company policy or practice
Overtime defined by a CBA or state rule beyond FLSA
Overtime paid on non-worked hours (vacation, holiday, PTO counting toward 40)
None of these amounts may be included in the qualified overtime reporting for this program.
Actions Employers Should Take Now
Contact your payroll provider immediately
Ask what tracking and reporting mechanism they have implemented
Review it carefully against your specific overtime rules
Do not assume your provider is “handling this” correctly — liability remains with the employer
Separate FLSA-mandated overtime from all other premium pay
This often requires new earnings or memo codes
Track and report only the half-time premium
Do not report total overtime wages
Develop a method to report 2025 eligible earnings
Ask your provider whether a report is available
Determine how and when employees will receive the information
Maintain clear boundaries
Your obligation is limited to accurate identification and reporting
Do not advise employees on eligibility, tax strategy, or filing
Direct employees to a tax professional for individual guidance
Final Reminder
The employer’s sole responsibility under this legislation is to properly identify and report qualified overtime compensation. Attempting to be “helpful” beyond that role introduces unnecessary legal and tax risk.
To ensure full compliance, employers should consult with:
Their payroll provider
Their CPA
An employment law professional
Often, coordination among all three is a good idea.
