Beginning in 2025, nonexempt employees who earn overtime may qualify for a new tax benefit called the Overtime Deduction Act. This law creates an above-the-line deduction, which reduces taxable income before adjusted gross income (AGI) is calculated. Unlike itemized deductions, it can be claimed even if an employee takes the standard deduction.
For employers, the law brings new reporting requirements and the need for accurate payroll data. For employees, it means potential tax savings on overtime wages.
To qualify, employees must meet the following criteria:
Be classified as nonexempt under the Fair Labor Standards Act (FLSA).
Work more than 40 hours in a workweek and earn overtime at 1.5 times their regular pay.
Have a valid Social Security number (SSN) and authorization to work in the U.S.
File jointly if married, to qualify for the higher deduction limits.
Industries like nursing, law enforcement, and emergency response are expected to see the greatest benefit since their employees often work long shifts with significant overtime.
The deduction applies to the overtime premium portion of wages, the amount paid above the employee’s regular hourly rate. For example, if a worker earns $20 per hour and works 45 hours in a week, the base pay is $900 (40 hours × $20 plus 5 hours × $20). The overtime premium is the additional $10 per hour for 5 hours, or $50. That $50 is the amount that qualifies for the deduction.
Key details include:
Maximum deduction: $12,500 annually for individuals, or $25,000 for joint filers.
Phaseout: Reduced by $100 for every $1,000 of modified AGI above $150,000 ($300,000 for joint filers).
IRS reporting: Employers must report qualified overtime on an employee’s Form W-2, Form 1099, or another acceptable IRS document, and also report the same amount to the IRS.
Timeframe: Applies to tax years 2025 through 2028.
Overtime wages will still be subject to payroll taxes for Social Security and Medicare, but employees can deduct federal income taxes on the eligible portion when filing.
The White House estimates the average eligible worker could save $1,400 to $1,750 annually through this deduction. Employers, however, must prepare for new responsibilities:
Expanded reporting obligations: Payroll systems must capture and correctly classify overtime premiums.
Employee education: Workers will likely have questions about how the deduction affects their paychecks and taxes.
Scheduling and workforce planning: With overtime becoming more financially attractive, employers may see higher demand for extra shifts.
Analysts suggest this tax break could encourage more employees to work overtime hours. That shift could affect recruitment and retention, since nonexempt positions may suddenly appear more attractive than exempt roles that don’t qualify for the deduction.
Employers should:
Monitor overtime trends within their workforce.
Keep classifications accurate to avoid compliance risks.
Communicate clearly with employees about how the new law works.
Tools like Excelforce's HR Compliance Services can help businesses stay ahead of evolving labor rules.
The Overtime Deduction Act offers real financial benefits for workers while increasing compliance requirements for businesses. Employers who invest in strong payroll and HR systems will be better positioned to manage reporting, scheduling, and employee communication.
©2025 - Content on this blog is intended to provide helpful, general information. Because laws and regulations evolve, please consult an HR professional or legal expert for guidance specific to your situation.