The IRS recently published long-awaited guidance on how, exactly, the No Tax on Tips and No Tax on Overtime deductions from the One Big Beautiful Bill Act (OBBBA) will work on 2025 tax returns. The bottom line? Be prepared for some extra paperwork if you’re an owner with employees or an individual who earned tips or overtime income in 2025.
Basic eligibility
To claim the deduction, an employee needs a valid Social Security number and must work in a job the IRS considers eligible for tip and overtime relief. These occupations generally involve direct customer service, tipped environments, or roles where overtime is common. The IRS published an initial list of qualifying occupations in September.
What counts as qualifying tips
Qualifying tips are cash tips that the employee reports to the employer through normal payroll channels. They must come from work actually performed, not from pooled funds that are improperly distributed or from any unreported income. The idea is simple — if the employer includes the tips in payroll reporting, they can be considered for the deduction.
Tips received through point-of-sale systems, electronic payments, or tip-sharing pools usually count as long as they are properly documented. Anything kept off the books cannot qualify.
What counts as qualifying overtime
For overtime pay to qualify, it must meet the federal definition of overtime, which is generally hours worked beyond the standard 40-hour workweek under federal wage rules. It must be recorded in the employer’s payroll system and paid through regular payroll rather than as a discretionary bonus or incentive that happens to be labeled as overtime.
The other key part to understand is which part of overtime pay counts towards the deduction. Under standard federal rules, overtime is paid at time-and-a-half. For example, if you earn $20 an hour, your overtime rate becomes $30. Only the extra $10 above your normal $20 an hour rate qualifies towards the tax deduction.
Employer responsibilities
Employers are expected to track and report the total amount of qualifying tips and qualifying overtime for each employee. The 2025 tax year, however, is being treated as a transition year by the IRS. During this time, businesses won’t face penalties for not fully complying with the deduction’s new compliance requirements. Employers are still encouraged to provide as much information as possible to employees so they can claim the maximum amount of the deduction.
Employee responsibilities
Since employers aren’t required to provide workers with tip and overtime pay totals for 2025, it’s up to the employee to make sure they get the maximum deduction possible. So workers should start as early as possible to tally the total tip and overtime income earned to report on their 2025 tax return. Pay stubs, time sheets, and written tip reports should be enough documentation to calculate tip and overtime pay totals. And be sure to keep all documentation in case the IRS has any questions about where your dollar amounts came from.
Stay tuned for any further updates on No Tax on Tips and No Tax on Overtime as we get closer to tax season.