No Tax on Overtime: How the New $12,500/$25,000 Deduction Works

The overtime companion to the "no tax on tips" deduction has an even more commonly misunderstood mechanic: it doesn't cover your entire overtime paycheck, only a specific slice of it.

Only the "Premium" Portion Counts

Under the Fair Labor Standards Act, non-exempt employees are generally paid "time-and-a-half" for overtime hours — their regular rate plus an extra 50% premium. The OBBBA deduction applies only to that extra half-time premium, not to the full overtime wage. If you earn $30/hour regularly and $45/hour for overtime hours, only the $15/hour premium portion — not the full $45 — is "qualified overtime compensation" eligible for this deduction.

The Caps

You can deduct up to $12,500 of qualified overtime premium pay if single, or $25,000 if Married Filing Jointly, for tax years 2025 through 2028. Like the tips deduction, it's above-the-line — available whether you itemize or take the standard deduction — and phases out under the identical schedule: reduced $100 for every $1,000 of MAGI above $150,000 (single) or $300,000 (joint).

New W-2 Reporting: Box 12 Code TT

Starting with 2026 W-2s, employers are required to separately report the premium portion of qualified overtime compensation using a new code (Box 12, Code TT) — this reports specifically the "and-a-half" half of time-and-a-half pay, not your total overtime wages. For 2025, the IRS provided transitional relief allowing employers more flexibility in how they identified and reported this figure while payroll systems caught up; expect the 2026 reporting to be more standardized and strictly enforced.

FICA and State Tax Still Apply

Exactly as with the tips deduction, this is a federal income tax deduction only. Social Security and Medicare tax still apply in full to your entire overtime pay, including the premium portion, and most states don't automatically conform to this new federal deduction on their own returns.

A Worked Example

An hourly worker earns $25/hour regular rate and works 200 overtime hours in the year at time-and-a-half ($37.50/hour). Of that $37.50, only the $12.50 premium portion (half of the $25 base rate) counts as qualified overtime compensation — 200 hours × $12.50 = $2,500 of qualified overtime income, well under the $12,500 single cap, so the full $2,500 is deductible (assuming income is under the phase-out threshold).

How This Stacks With the Tips Deduction

The overtime deduction and the tips deduction are entirely independent — a tipped worker who also earns qualifying overtime can potentially claim both in the same year, each subject to its own cap, but sharing the same $150,000/$300,000 MAGI phase-out schedule. Because the phase-out is calculated once against your total MAGI (not separately for each deduction), claiming both doesn't double your effective phase-out room — a higher-income filer claiming both deductions will see both reduced together as MAGI rises past the shared threshold, not one deduction phasing out before the other starts.

Common Questions

Does this apply to salaried, exempt employees? No — the deduction covers overtime compensation required under the FLSA, which generally applies to non-exempt hourly workers; salaried exempt employees typically don't receive FLSA overtime premium pay at all.

Can I claim both the tips deduction and the overtime deduction in the same year? Yes — they're independent deductions with separate caps; a tipped worker who also earns overtime pay can potentially claim both, subject to each one's own cap and the same shared phase-out schedule.

Is this permanent? No — like the tips deduction, it's currently written into law only through 2028 absent further legislation.