Preface: “You can’t have a million-dollar dream with a minimum wage work ethic.” — Zig Ziglar
No Tax on Tips and Overtime: What the OBBB Act Means for You
During the summer of 2025, President Trump signed the One Big Beautiful Bill (OBBB) Act into law—a sweeping piece of legislation that introduced significant tax changes for both individuals and businesses. Among its many provisions are two that directly impact working Americans: new deductions for tips and overtime pay.
These changes aim to put more money in the hands of employees in industries where tips and overtime are a significant part of their income.
Qualified Tips Deduction
Starting in tax year 2025, individuals who earn tips can deduct a portion of them from their taxable income. The law defines a qualified tip as any cash tip received in an occupation that regularly received tips before December 31, 2024 (for example, restaurant servers, bartenders, hotel staff, and hairstylists).
Here’s how it works:
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- You can deduct up to $25,000 per year in qualified tips.
- The deduction starts to phase out if your modified adjusted gross income (AGI) exceeds $150,000 (or $300,000 for joint filers).
- Once your AGI reaches $400,000 ($550,000 for joint filers), the deduction fully phases out.
- Married couples must file jointly to claim the deduction, and the taxpayer’s Social Security number must appear on the tax return.
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Example:
If you earn $50,000 in wages and $10,000 in tips as a restaurant server, you may be eligible to deduct the $10,000 in qualified tips, reducing your taxable income by that amount. However, this deduction only applies if you meet all IRS reporting and income requirements.
Important: Even though the income tax on these tips can be reduced, you still owe Social Security and Medicare (FICA) taxes on them.
Reporting Requirements for Tips
The IRS requires proper documentation for all qualified tips:
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- Employers are required to report tips on Form W-2.
- Employees who receive unreported tips must report them on Form 4137 (Social Security and Medicare Tax on Unreported Tip Income).
- Independent workers who receive tips should expect to receive Form 1099-NEC or Form 1099-K from their clients or payment processors.
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The Treasury Department is updating withholding rules for wages after December 31, 2025, to account for this new deduction.
Qualified Overtime Pay Deduction
The OBBB Act also introduces a deduction for qualified overtime pay from 2025 through 2028. This provision benefits employees who often work more than 40 hours per week.
Key Details:
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- Individuals can deduct up to $12,500 per year, or $25,000 for joint filers.
- The deduction begins phasing out when AGI exceeds $150,000 ($300,000 for joint filers) and is completely phased out at $275,000 ($550,000 for joint filers).
- Married taxpayers filing separately are not eligible.
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What Counts as Overtime Pay?
“Qualified overtime compensation” refers to overtime required under the Fair Labor Standards Act (FLSA) — pay at least 1.5 times your regular rate for hours worked beyond 40 per week. This deduction recognizes that many workers rely on overtime income to make ends meet.
Example:
Suppose a factory employee earns $60,000 in regular wages and $10,000 in overtime pay. Under this rule, they could deduct up to $10,000 of that overtime income (subject to income phase-outs), thereby reducing taxable income and potentially saving thousands in taxes.
Reporting Overtime Pay
Just like tips, employers must report overtime pay on Form W-2, while independent contractors should expect to receive a Form 1099-NEC.
For wages earned before January 1, 2026, the IRS allows reasonable estimates when separately identifying overtime income on reporting forms.
A Word of Caution
While these new deductions are generous, they only apply to federal income tax, not to FICA or FUTA (employment) taxes. That means you still pay Social Security and Medicare taxes on your full income, including tips and overtime.
Make sure you keep detailed records — pay stubs, tip logs, and any documentation from your employer — to substantiate your deductions if the IRS requests verification.
Bottom Line
The new tips and overtime deductions in the OBBB Act provide a significant tax break for millions of workers, particularly in service- and labor-intensive industries.
If you regularly earn tips or overtime pay, you could reduce your taxable income by thousands each year through 2028.
However, eligibility depends on income thresholds and proper reporting.