When the One Big Beautiful Bill Act ("OBBBA") was signed on July 4, 2025, "no tax on overtime" moved from campaign slogan into the Internal Revenue Code. It is now §225 — and it is considerably narrower than the talking point.
In plain terms: certain workers can deduct a slice of their overtime pay from their federal income tax, for tax years 2025 through 2028. The deduction is above‑the‑line, so it flows to taxpayers who itemize and those who do not. But three guardrails decide whether any given paycheck qualifies.
What actually changed
§225 permits an individual deduction for qualified overtime compensation. The statute defines that as overtime pay required by Section 7 of the Fair Labor Standards Act — the federal one‑and‑a‑half rule for hours over 40 in a week — and only the half portion on top of the regular rate.
That distinction is the single most misunderstood piece of the law. The "time" part of time‑and‑a‑half remains fully taxable. Only the "half" premium is deductible.
The "premium only" rule
FLSA‑exempt employees — most salaried professionals, many managers, some commissioned sales roles — do not get this deduction, even if their employer voluntarily pays them an overtime differential. Daily overtime required by state law (California's over‑8 rule, for example) does not count either. The statute hooks specifically to the federal weekly standard.
Collectively bargained overtime that exceeds FLSA minimums is partially eligible — only up to the FLSA‑required amount. Comp time, shift differentials, on‑call pay, and holiday premiums are outside the definition entirely.
Caps and phase‑outs
The deduction is capped at $12,500 per filer ($25,000 for joint filers). It phases out once modified AGI crosses $150,000 single / $300,000 joint, at a rate of $100 of deduction lost per $1,000 of income above the threshold.
A married couple filing jointly with $350,000 of MAGI loses $5,000 of the $25,000 cap, leaving $20,000 available against qualifying premium pay.
Nurse works 600 overtime hours in 2025 at a $40 regular rate. Qualified premium: 600 × $20 = $12,000. With MAGI of $95,000, the full $12,000 is deductible. At a 22% marginal rate, that's $2,640 in federal tax saved.
W‑2 reporting in 2025
For tax year 2025 the IRS granted transition relief: employers are not required to separately state qualified overtime on Form W‑2. Most payroll systems are not yet configured to split the "half" from the "time." Employees who want the deduction will need to compute it from pay stubs or a year‑end statement from their employer.
Starting in 2026, Box 14 (or a new code) is expected to carry the qualified overtime figure. We're advising employers to begin tracking the split now — retrofitting a full year of pay data in January is painful, and the line between eligible and ineligible overtime is not something payroll clerks can easily reconstruct.
Sunset and planning
§225 expires after December 31, 2028, unless extended. For employees with variable overtime, this is a four‑year window where an extra shift is meaningfully more valuable after tax than it will be in 2029. For employers, it is an opportunity to communicate a real benefit without spending a dollar more on wages.
Two planning notes worth flagging:
- Withholding. The deduction does not change federal withholding tables; eligible workers will get the benefit as a refund or reduced balance due at filing, not in each paycheck.
- State conformity. States are split. California, New York, and most blue states have not conformed. Several red states have. Check your state before assuming the federal deduction flows through.
If you employ hourly workers and haven't reviewed your overtime coding since July, that review should happen before year‑end.