How does the bill define overtime rates, thresholds, and pay calculation methods?
Executive summary
The One Big Beautiful Bill Act (OBBBA) and related measures create a temporary federal tax benefit for “qualified overtime compensation” for tax years 2025–2028: individuals may deduct the overtime pay amount that exceeds their regular rate (commonly the half‑time premium of time‑and‑a‑half) and employers must begin new reporting obligations; the deduction is subject to limits and transition rules for 2025 [1] [2] [3]. Key definitional and operational details — exactly which overtime, how thresholds are calculated, and precise employer reporting mechanics — remain dependent on Treasury/IRS guidance and transitional “reasonable methods” allowed for 2025 [4] [5] [6].
1. What the law says about the overtime amount that’s eligible
The statute creates an above‑the‑line deduction for “qualified overtime compensation” defined as the pay that exceeds the employee’s regular rate of pay — explicitly framed as the premium portion of overtime (for example, the “half” in time‑and‑a‑half) that the Fair Labor Standards Act (FLSA) requires [1] [2]. Congressional summaries and major tax outlets echo this: the deduction applies to the premium portion of overtime required under Section 7 of the FLSA [3] [4].
2. Thresholds and limits on the deduction
OBBBA’s deduction is temporary and capped in scope: sources say the provision is effective for tax years 2025 through 2028 and is not permanent [3] [1]. Some reporting and analyst pieces cite dollar limits for related provisions (e.g., overtime deduction aggregate limits discussed in commentary), but the authoritative IRS descriptions focus on the premium portion and do not set a single universal dollar cap in the IRS explanatory passages cited here — reporting that dollar caps are described in some industry summaries, while Congress.gov summaries emphasize a tax exclusion/deduction approach [7] [8] [3]. Available sources do not mention a single statutory income floor or phase‑out formula in the primary IRS descriptions cited above beyond the time window [1] [2].
3. How pay should be calculated for the deduction
Practically, the calculation centers on separating the premium component of overtime from regular wages — i.e., the amount paid in excess of the regular hourly rate for FLSA‑required overtime [1] [2]. Tax professionals note uncertainty because many payroll systems do not historically track overtime in FLSA‑specific buckets for tax reporting, so the IRS has promised transition rules and further guidance to tell employers and taxpayers how to compute the deductible amount [4] [6]. For tax year 2025 only, the law permits employers to use “any reasonable method” specified by the Treasury Secretary to estimate qualified overtime amounts to accommodate retroactive effect [5] [9].
4. Employer reporting and administrative mechanics
The law requires employers and other payors to report qualified overtime compensation on information returns and to furnish statements to employees showing total qualified overtime paid during the year [1] [2]. The IRS issued transition relief for 2025, stating employers won’t face penalties for failing to separately report overtime amounts for tax year 2025 and may use various ways (online portal, box 14, separate statement) to provide the accounting [6] [10]. Draft W‑2 changes and a new code (“TT”) have been circulated for future reporting, but those items remain subject to final IRS forms and instructions [5].
5. Open questions and where guidance is still expected
Tax professionals and firms uniformly note outstanding questions: how exactly “qualified overtime” maps to various pay arrangements (bonuses, hazard pay, non‑FLSA premium arrangements), how the deduction interacts with withholding and payroll tax rules beginning in 2026, and the precise reasonable‑method formulas for 2025 [4] [11]. The Treasury/IRS acknowledged they will publish more guidance and provided penalty relief as a stopgap while they issue instructions and list occupations for tip rules, signalling further clarifications will follow [6] [2].
6. Competing perspectives and practical implications
Supporters portray the deduction as returning overtime’s premium to workers by excluding or deducting the premium portion from federal income taxation, potentially increasing take‑home pay for overtime earners [3] [1]. Practitioners warn the operational burden on employers and payroll processors is nontrivial: systems must be updated, and employers need to decide on permitted estimation methods for 2025 — hence IRS transition relief [4] [10]. Some analyses attach budgetary costs over a decade to the provision, underscoring policy tradeoffs between worker take‑home pay and federal revenue impacts [3].
Limitations: this briefing uses the cited summaries and IRS notices; detailed statutory text items like precise dollar caps or income phase‑outs referenced in some industry pieces are not fully set out in the IRS summaries cited above, and final administrative rules remain forthcoming [1] [4].