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New Tax Breaks on Overtime and Tips: What Employers and Employees Need to Know A major shift in tax policy is here, and it could mean more money in the pockets of millions of American workers — especially those who rely on tips or regularly work overtime. As part of the One Big Beautiful Bill (OBBB), signed into law on July 4, 2025, Congress introduced two key tax deductions: one for qualified tip income and another for overtime premium pay. These changes are designed to reward hard-working Americans and reduce the income tax burden on lower- and middle-income earners. But what does this mean in practice? Let’s break it down. No Tax on Tips: A Win for Service Industry Workers Under the new law, workers in tipped professions — such as servers, bartenders, hotel staff, and others — can now deduct up to $25,000 in tips from their federal taxable income each year. This deduction is retroactive to January 1, 2025 , and is set to remain in effect through the end of 2028. To qualify: The tips must be customary and reported to the employer . The worker must be in a recognized “tipping occupation,” such as those listed in prior IRS guidance. The deduction begins to phase out for individuals earning more than $150,000 (or $300,000 for joint filers). This means a server who reports $15,000 in tips could potentially deduct the full amount from their income when calculating their taxes — reducing taxable income and potentially saving hundreds or even thousands of dollars in federal taxes.  This deduction does not apply to Social Security and Medicare taxes. Those payroll taxes are still assessed on total wages, including tips. No Tax on Overtime: Relief for Non-Exempt Employees The law also introduces a deduction of up to $12,500 per individual (or $25,000 for joint filers) for overtime premium pay. This refers specifically to the “time-and-a-half” portion paid for hours worked beyond 40 in a week under the Fair Labor Standards Act (FLSA). It’s important to understand what qualifies: Only non-exempt employees (those entitled to overtime under the FLSA) can claim this deduction. The deduction applies only to the premium portion — that is, the extra 50% above regular hourly pay. High-income earners will see a phase-out starting at $150,000 (individuals) or $300,000 (joint filers). For example, if an hourly worker earned $20/hour and worked 10 hours of overtime in a week, the overtime premium ($10/hour × 10 hours = $100) would be eligible for the deduction — not the full $300 in overtime pay. If that worker consistently earned similar overtime throughout the year, they could reach or exceed the maximum deduction and realize significant federal tax savings . What This Means for Employers Although the new deductions apply to individual tax returns, employers will play a critical role in ensuring that both workers and the IRS have accurate records. Here are the key responsibilities employers now face: Payroll Reporting Enhancements Employers must update their payroll systems to separately track qualified tips and overtime premium pay . These amounts must now be clearly designated on year-end tax forms like the Form W-2 . Form and Recordkeeping Requirements Employers will need to include additional information on employee tax forms, including: A breakdown of earnings by type (regular, overtime premium, tips). Occupation codes that identify whether the employee is in a tipping role. System and Software Updates Payroll vendors and in-house systems must be adjusted to reflect the new codes. For 2025, a “reasonable method” grace period applies, but in future years, precision will be required. Classification Reviews Employers may need to re-evaluate FLSA classifications to ensure that workers are properly labeled as exempt or non-exempt. Improper classification could result in missed deductions or even penalties. Communication and Training HR and payroll teams should be trained on the new rules, and employers should proactively communicate with employees about the potential benefits and what information will be required at tax time. How Employees Benefit — and What They Need to Do These changes are being praised as a way to put more money into the hands of frontline workers, but the deductions don’t apply automatically. Employees need to take certain steps to ensure they receive the tax benefits they’re entitled to. Maintain Accurate Records Employees should keep good records of their reported tips and overtime hours . While much of this will be available on their W-2, they should verify it for accuracy. Understand Eligibility Limits High earners may not qualify, and the deductions only apply to properly classified pay. Employees paid “overtime” who are exempt under the FLSA may find their pay doesn’t count. Prepare for Tax Filing These deductions will likely appear as line items on Form 1040 or a new IRS schedule. Employees should consult a tax preparer or financial advisor, especially during the first year of implementation. Track Annual Caps Workers should be aware of the annual deduction limits and ensure they do not over-report. Overstating deductions could trigger audits or penalties. What This Means in Dollars According to preliminary estimates from tax experts: A tipped worker who earns $20,000 in tips could save between $1,800–$2,200 in federal income taxes, depending on their tax bracket. An hourly worker earning $8,000 in qualified overtime premium pay might reduce their federal taxes by around $800–$1,200 . For households that include both tipped and overtime-earning workers, the combined benefit could reach $4,000–$5,000 annually — a significant reduction in their federal tax liability. Final Thoughts This new legislation signals a clear shift in tax policy — one that rewards work done during evenings, weekends, and holidays, and recognizes the financial challenges of service industry workers. For businesses, it means adjusting payroll systems, refining classifications, and improving documentation . For employees, it means paying attention to how their income is reported and taking full advantage of available tax savings . Time & Pay is here to help employers navigate this transition. Our systems can be tailored to properly track and report eligible tip and overtime income, ensuring compliance and helping your employees take advantage of these new deductions. If you’re unsure whether your payroll processes are ready, now is the time to evaluate and prepare. Need help tracking qualified wages and ensuring accurate reporting? Contact Time & Pay today — we’ll help you get compliant and keep your employees informed.

On December 23, 2024, President Biden signed into law two significant pieces of legislation aimed at streamlining Affordable Care Act (ACA) reporting requirements for employers: the Paperwork Reduction Act (PRA) and the Employer Reporting Improvement Act (ERIA). These laws introduce several changes that will affect Applicable Large Employers (ALEs) and other entities responsible for furnishing Forms 1095-B and 1095-C to individuals. Key Provisions of the Paperwork Reduction Act (PRA): • Simplified Form Furnishing: Employers can satisfy the requirement to furnish Forms 1095-B or 1095-C by providing a clear, conspicuous, and accessible notice to employees, informing them that they can request a copy of the form. Upon request, the employer must provide the form by the later of January 31 of the following year or within 30 days of the request. • Effective Date: These changes apply to forms for the calendar year 2024, which are due in 2025. • Electronic Filing Requirement: ALEs must continue to electronically file forms with the IRS. • State-Specific Requirements: The federal provisions do not override any state-specific requirements; employers must continue to comply with state mandates regarding form furnishing. Key Provisions of the Employer Reporting Improvement Act (ERIA): • Electronic Form Delivery: Employers are permitted to furnish Forms 1095-B and 1095-C electronically, provided they obtain the employee's consent. • Alternate Information Use: If an individual's Social Security Number (SSN) is unavailable, employers may use the individual's date of birth for Form 1095-B or 1095-C reporting. However, this exception does not apply to Form 1095-C for employees. • Extended Response Time: The response time for initial Employer Shared Responsibility Payment (ESRP) letters has been extended If you are a Time & Pay client would like to participate in paperless deliver, please let your CSR at Time & Pay know ASAP via email. If you do choose to participate, we have provided examples of the required Employee Notices below. Please make any edits necessary in order to provide accurate instructions based on your organization’s delivery process. Reference: SyncStream

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In the evolving landscape of U.S. tax policy, President Donald Trump has proposed several changes that could significantly impact payroll processes for businesses. These proposals include eliminating taxes on tips, overtime pay, and Social Security benefits. Understanding these potential changes is crucial for companies to adapt their payroll systems accordingly.

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What’s New? As ERC fraud rises, the IRS is stepping up efforts to warn employers of parasitic companies, and encourage careful review ERC guidelines before claiming any tax credits. The Employee Retention Credit program was created to incentivize employers to keep their employees on payroll in 2020 and 2021, despite economic conditions and supply chain issues brought on by the Covid pandemic. Washington’s intentions were good, but unfortunately, it has led to fraudulent activity that could cost employers thousands in fines, penalties, and tax repayments. What you should know: Parasitic companies offering to help claim ERC on behalf of an employer may market false information, and take liberties to claim more than what their “client” actually qualifies for. These companies typically charge a percentage of the credits they help claim, and are therefore incentivized to claim as much money as possible. Ultimately, it is up the employer to determine whether or not they qualify for employee retention credits. Any fines and penalties for wrongfully claiming ERC will be assessed to the employer, not the company that helped them claim the credit. Before claiming ERC, employers should do their own research to make sure they meet the qualification requirements outlined by the IRS . Employers should also know that owners’ wages, and wages of parties related to the owner cannot be included when calculating the tax credits, nor can credits be claimed on any wages that were paid using funds from forgiven PPP loans. These companies also frequently fail to mention that the employer will need to reduce the wage deductions they claimed on their business’ federal income tax return by the amount of the credit. Summary: Employee Retention Credits have helped employers, who may have struggled in recent years, keep their doors open and keep employees on payroll. Unfortunately, they have also created an opportunity for fraud. Be wary if anything sounds too good to be true, and do your own research to determine whether or not you should claim ERC. Ultimately, it is the employer’s responsibility to determine eligibility and ensure they follow all IRS guidelines. Time & Pay is happy to answer questions and provide guidance to anyone interested. We can also help employers claim credits, and our fees are not based on the amount of money you qualify for, only the amount of time we spend on the project. Contact us today for more information!