The recently passed One Big Beautiful Bill Act (OBBBA) introduces a new federal tax deduction for employees for overtime pay, effective January 1, 2025. Yes, you read the date correctly, retroactively to the first of 2025. Eligible employees may deduct up to $12,500 of qualified overtime wages from their federal taxable income, with the deduction doubled for joint filers. Importantly, the deduction applies only to the overtime premium required under federal law for hours worked beyond 40 in a workweek. Other bonus or overtime arrangements that are not required by federal law do not qualify.
What does this mean for employers? Employers need to adapt their payroll systems to track and report qualified overtime wages separately on Form W-2s. While the new deduction may reduce taxable income for some employees, it does not impact payroll taxes, which means Social Security and Medicare contributions still apply. Employers should work with payroll providers now to ensure reporting systems comply with the new reporting requirements for the 2025 reporting period. Also, employers should prepare communication strategies so employees understand how this change may affect their tax filings.
Although this change may provide some tax relief to employees, the details are complex. Higher earners may see limited benefits due to income phase-outs, and increased overtime may still affect tax brackets or eligibility for certain credits. California employers should take steps to educate employees about the change and remind them to consult with tax professionals regarding their specific circumstances.
