How will employers report qualified overtime on 2026 W‑2s and what should payroll teams change now?
Executive summary
Starting with tax year 2026 employers must separately report qualified overtime compensation on employees’ Form W-2s, with IRS draft instructions pointing to a new Box 12 code (draft “TT”) though some payroll providers expect to use Box 14 or supplemental statements during transition [1] [2] [3]. Payroll teams should immediately begin segregating the overtime premium in their systems, coordinate with vendors, test reporting and communications, and treat 2025 as a planning year under the IRS transition relief [4] [5] [6].
1. How the 2026 W‑2 will show qualified overtime: draft Box 12 “TT” versus other options
The IRS has circulated a draft 2026 W‑2 that directs employers to report total qualified overtime compensation in Box 12 using a new code—commonly referenced as draft code “TT”—making separate reporting mandatory beginning in tax year 2026 [1] [7]. Several payroll and accounting advisers concur that Forms W‑2, 1099‑NEC, 1099‑MISC and related information returns will be updated for 2026 to carry separate overtime and tip reporting fields, but because the draft is subject to change some vendors and employers are considering Box 14 or supplemental year‑end statements as interim approaches [8] [3] [9].
2. What “qualified overtime” means for reporting and why systems must separate the premium
The deduction applies only to the overtime premium—the “and‑a‑half” portion above regular pay under FLSA—so payroll systems must be able to segregate that premium amount (for example, the extra $10 per hour when time‑and‑a‑half applies) from base wages and other premium pay that does not qualify [1] [7]. Employers therefore need separate earning codes for FLSA overtime premiums and consistent rules about how bonuses, state‑mandated premiums or CBA (collective bargaining) overtime interact with the federal qualified amount, because only the FLSA premium qualifies and other premiums may not [1] [5].
3. The 2025 transition: relief, reasonable methods, and what to do this year
For the 2025 tax year (forms issued in 2026) the IRS provided transition relief allowing employers to approximate qualified overtime amounts by “any reasonable method” specified by Treasury, and it will not impose penalties for inability to report in a new W‑2 box during the transition [4] [1] [10]. That relief makes 2025 a planning window: employers are advised to track overtime hours and premiums now, produce employee statements or use Box 14 if chosen, and document the method used so employees and tax preparers can apply the deduction where eligible [9] [6] [5].
4. Practical payroll changes to implement immediately
Payroll teams should audit current payroll codes and create a dedicated qualified‑overtime premium code, configure time‑entry and rate tables to calculate and accumulate the “premium” portion separately, engage payroll vendors and test the export and W‑2 population processes (many vendors have already added tracking options and some vendors’ users report setup issues that need vendor support), and prepare employee communications and year‑end statements as a fallback for 2025 [2] [6] [5] [3].
5. Risks, vendor agendas and outstanding guidance
While professional advisers urge immediate action to avoid 2026 scramble, the draft status of forms means employers must balance investment in system changes against the possibility of revisions; payroll vendors and consultants naturally stand to gain business from implementation projects, so employers should require concrete product roadmaps and testing commitments before large vendor spends [1] [2] [11]. The IRS has signaled it will issue further instructions before 2026 but has left open questions—such as final box placement and exact definition edge cases—so expect supplemental guidance and remain ready to adjust reporting workflows [4] [7].
6. Bottom line — compliance checklist for payroll leadership
Treat 2025 as the rehearsal: begin tagging and accumulating qualified overtime premiums now, lock in vendor timelines for supporting the draft Box 12 code (TT) or agreed alternative, run parallel reports to validate year‑end totals, and prepare clear employee statements and FAQs so workers and preparers can claim deductions; full mandatory W‑2 reporting will arrive for tax year 2026 and penalty relief will not extend beyond the transition window [1] [4] [10].