Important Considerations for Employers Regarding the One Big Beautiful Bill Act and Its Provisions Addressing Deductions for Qualified Tips and Qualified Overtime

On July 4, 2025, President Trump signed into law the federal One Big Beautiful Bill Act (OBBBA), impacting federal taxes, credits, and deductions. Among other provisions, the OBBBA creates new payroll tax deductions for qualified tips and qualified overtime compensation for tax years 2025 through 2025. Shortly after the bill was signed into law, the IRS issued a fact sheet. On September 22, 2025, the IRS issued proposed regulations regarding qualified occupations for the tip deduction and the definition of qualified tips. The public has until October 23, 2025 to comment on the proposed regulations. Following is a brief summary regarding the OBBBA’s qualified tip and qualified overtime deductions and impacts on employers.

What Constitutes Qualified Tips? 

Only employees in certain occupations—those that customarily and regularly received tips on or before December 31, 2024—are eligible to take advantage of the deduction for tips. On September 22, 2025, the Internal Revenue Service (IRS) issued proposed regulations outlining qualifying professions, which included the following categories:

100s – Beverage and Food Service

200s – Entertainment and Events

300s – Hospitality and Guest Services

400s – Home Services

500s – Personal Services

600s – Personal Appearance and Wellness

700s – Recreation and Instruction

800s – Transportation and Delivery

In addition, tips must meet certain requirements in order to qualify for the deduction. Specifically, they must not include any amount received by an individual unless the amount:

  • Is paid voluntarily (e.g., not a mandatory service charge) without any consequence in the event of nonpayment, is not the subject of negotiation, and is determined by the payor;

  • Is not received in the course of a trade or business that is a specified service trade or business as defined in section 199A(d)(2) of the Internal Revenue Code; and

  • Satisfies such other requirements as may be established by the Secretary in regulations or other guidance.

Qualified tips may include tips received from customers that are paid in cash or charged and, in the case of an employee, tips received under any tip-sharing arrangement. However, amounts received for prostitution services and pornographic activity are not qualified tips.

What Constitutes Qualified Overtime? 

Only federal overtime pursuant to the Fair Labor Standards Act (FLSA) is eligible for the deduction and only that portion of the FLSA overtime amount that is considered the premium payment.

This means that only hours in excess of 40 hours per week will be eligible for the deduction. Overtime that is only required by state laws, collective bargaining agreements, or employer policies—such as daily overtime, overtime on the 7th consecutive workday in a workweek, or any double time—cannot be included in the deduction except to the extent it also constitutes hours in excess of 40 per week.

This also means that only a portion of the FLSA overtime is included in the deduction, specifically, the additional 0.5 premium portion of each FLSA 1.5 overtime hour. For instance, if an employee earns $20/hour and works 40 straight time hours and 10 overtime hours, it is only the $10/hour premium for those 10 hours of overtime ($30 overtime rate minus $20 base rate) that is deductible (for a total of $100).

What Are the Maximum Deductions?

The maximum deduction for qualified tips is $25,000. The maximum deduction for qualified overtime is $12,500 for single filers or $25,000 for joint filers. The allowable deduction for both tips and overtime is reduced for earners with adjusted gross income (AGI) exceeding $150,000 for single filers and $300,000 for joint filers.

What Must Employers Do to Calculate and Report These Amounts and Implement Withholding?

When completing Forms W-2, employers will need to identify the qualified occupation code for each tipped employee and separately report the total amount of qualified tips earned and the total amount of qualified overtime compensation paid during the year. Beginning in tax year 2026, employers will also be required to implement appropriate withholding.

For tax year 2026, the IRS will issue new tax forms, including new Forms W-4, W-2, and 941. Draft versions of the forms, instructions, and publications can be located here. However, the IRS has confirmed these forms will not be available to employers for tax year 2025. The IRS will provide transition relief for tax year 2025 for employers subject to the new reporting requirements. Employers will be able to use any reasonable estimation method to determine the amount of qualified tips and qualified overtime for 2025 by IRS-approved methods. Additional guidance is expected to be issued before the end of the year as to how employers can calculate and report these amounts for 2025 using existing forms.

In the meantime, employers should ensure they have systems in place to calculate these amounts for 2025, and to do so and implement withholding for 2026.

Following are steps that may be taken to prepare for 2025 reporting and 2026 reporting and withholding:

  1. Identify employee groups who earn/will earn qualified tips and/or qualified overtime.

  2. Update systems to track and calculate qualified tips and qualified overtime. This may take significant time and resources because, in California where there is also daily overtime and double time, the overtime hours applicable to the deduction will—in almost every instance—be different than the total overtime hours paid. Likewise, systems will need to account for the premium portion only, not the entire amount paid for each overtime hour. Employers should ensure they have sufficient time to make these calculations and should document how these calculations were determined.

  3. Consult with tax professionals to discuss how to separately report qualified tips and qualified overtime for 2025 within the parameters of the existing Form W-2.

  4. Prepare for withholding changes for 2026.

  5. Monitor status of updated tax forms for 2026, including updated Form W-4 for employees to complete and updated Forms W-2 and 941 for reporting.

  6. Consult with benefits counsel and tax professionals regarding OBBBA’s impact regarding Form 1099 reporting (increased thresholds beginning at $2,000 and adjusted annually thereafter for inflation) and other areas of the Act including various benefit provisions.

This legal update and any use of its information does not create an attorney-client relationship. Nothing contained on this website should be considered legal advice for any specific employer or employment situation. Consult legal counsel before taking any action as a result of information contained herein.

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