New Overtime And Tip Deductions Require Payroll Adjustments
The temporary tax deductions for overtime and tips included in the federal budget bill passed on July 4, 2025 (the “one Big Beautiful Bill Act” or OBBBA) may require changes to employers’ payroll and tax reporting practices. Employers are encouraged to consult with tax advisors for expert guidance in this area.
The OBBBA provides a federal income tax deduction for a portion of an eligible worker’s tips and overtime. These new deductions are temporary and expire after the 2028 tax year. The deductions apply only to federal income tax; tips and overtime earnings are still subject to Social Security, Medicare, and state/local taxes.
The overtime deduction applies only to weekly overtime required by federal law (the Fair Labor Standards Act). An employee earning daily overtime under Nevada law or a premium required by a contract (such as a CBA) is not eligible for the deduction. Second, the overtime deduction applies only to the overtime premium portion of an employee’s wage. As such, an employee earning $20 an hour can apply the deduction only to his overtime premium ($10), not his entire $30 overtime rate.
As to tips, the deduction is available only for tips earned in a “traditionally and customarily tipped” industry. The Treasury Secretary is required to publish a list of occupations that qualify within 90 days. The deduction does apply to tips received via a tip pool. But it applies only to tips that are voluntarily paid by a customer or client; it does not apply to mandatory service charges automatically assessed to a customer’s bill.
We encourage you to consult with your tax advisor to prepare for these changes as employers are required to separately report tips and overtime income that qualifies for the deductions and each deduction is subject to caps. Adjusting how you report income that qualifies for the deductions will be particularly important in Nevada because daily overtime will need to be separated from weekly overtime. A tax advisor can also assist with other tax credits implemented or made permanent through the OBBBA such as a new type of permanent tax credit available to an employer providing paid family and medical leave.
Finally, be careful with changes to employees’ classifications. As you know, exemptions from overtime are subject to strict tests and making a mistake in the wage and hour arena can result in enormous liability. If you have questions about reclassifying employees or the impact of the new tax deductions on your employees, please consult with a KZA attorney.
KZA Employer Report articles are for general information only; they are not intended and should not be construed to be legal advice. Reading or replying to such articles does not establish an attorney-client relationship. In addition, because the subject matters and applicable laws discussed in Employer Report articles are often in a state of change and not always applicable to every type of business entity or organization, readers should consult with counsel before making decisions based on the same.