An animated gif of a glass jar filled with coins representing cash tips, symbolizing tipped income, tip reporting, and tax considerations for service industry workers such as servers and bartenders.

The U.S. Treasury Department and the Internal Revenue Service have released new guidance affecting individuals who receive overtime pay or tips during the 2025 tax year. Below is a summary of the key provisions and examples to help you understand how these changes may apply to you.

No Tax on Overtime

For tax years 2025 through 2028, individuals who receive qualified overtime compensation may be eligible to deduct the portion of overtime pay that exceeds their regular rate of pay. This generally refers to the additional “half” portion of “time-and-a-half” compensation required by the Fair Labor Standards Act and reported on a Form W-2 (for 2025 it is not required to report on W-2), Form 1099, or other specified statement furnished to the individual.

Key details include:

  • The maximum annual deduction is $12,500 or $25,000 for joint filers.
  • The deduction begins to phases out for taxpayers with modified adjusted gross income over $150,000 or $300,000 for joint filers.
  • The deduction is available for both itemizing and non-itemizing taxpayers.

Certain Employees Are Exempt from Overtime Rule

Generally, the FLSA requires employers to pay covered employees in the United States at least the federal minimum wage all hours worked and overtime pay at no less than one and one-half times their regular rate of pay for all hours worked over 40 in a workweek. However, the law includes certain exemptions for specific types of employees.

Today’s guidance provides a series of examples illustrating common situations that workers who receive qualified overtime compensation might encounter. Today’s guidance does not affect any existing rights or responsibilities related to tips or overtime compensation under the FLSA. Below are abridged versions of some of those examples.

Overtime Example/Calculation - Total Overtime Pay Divided by 3

If a payroll statement (paystub) shows a total “overtime” amount of $15,000, which is the total amount Employee A was paid for working overtime (the FLSA overtime premium combined with the portion of his regular wages). Employee A may include the $5,000 FLSA overtime premium, computed by dividing $15,000 by 3 in determining the amount of qualified overtime compensation for 2025.

No Tax on Tips

Under the One, Big, Beautiful Bill, workers may also qualify for new deduction related to qualified tips for tax years 2025 through 2028. For tipped workers, the maximum annual deduction is $25,000, which phases out for taxpayers with modified adjusted gross income over $150,000 or $300,000 for joint filers.

It is estimated that approximately six million workers report tipped wages.

Examples of Tipped Employees

The guidance provides an example to illustrate a situation tipped employees might encounter; below are abridged version of an example.

Restaurant Server with Reported Tips in box 7, Form W-2

Employee A is a restaurant server whose 2025 Form W-2, box 7, reports $18,000 in Social Security tips. Employee A did not report any additional tips on Form 4137. Employee A may use $18,000 when determining the amount of qualified tips for the 2025 tax year.

Bartender with additional reported tips on Form 4137

Employee B is a bartender who reports $20,000 in tips to their employer during the 2025 tax year on Forms 4070 and reports $4,000 of unreported tips on Form 4137, line 4. Employee B’s 2025 Form W-2 reports $200,000 in box 1 and $15,000 in box 7.

Employee B may use either the $15,000 in box 7 of the Form W-2, or the $20,000 of tips reported to Employee B’s employer on Forms 4070 in determining the amount of qualified tips for tax year 2025. Regardless of the option chosen, Employee B may also include the $4,000 in unreported tips from Form 4137, line 4, in determining the amount of qualified tips.