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Payroll Updates Under The One Big Beautiful Bill Act (OBBBA)

The recently signed One Big Beautiful Bill Act (OBBBA) introduces new payroll-related changes that affect how overtime pay and tips are treated for federal tax purposes. Below, we’ll explain what’s changing, what’s not, what employers should do to prepare, and how Empeon will support you through these changes.

What’s Changing

  • Overtime Deduction:
    Starting with the 2025 tax year, employees may deduct the overtime premium portion of their wages from federal taxable income.

    • Applies only to FLSA-defined overtime (the “half-time” premium for hours worked over 40 in a workweek).

    • Deduction limits: $12,500 for single filers, $25,000 for joint filers, subject to income thresholds.

  • Tip Deduction:
    Starting with the 2025 tax year, employees may deduct the overtime premium portion of their wages from federal taxable income.

    • Applies only to cash tips received by individuals in qualified occupations that customarily received tips that are properly reported.

    • Deduction limits: $25,000, subject to income thresholds.

What’s Not Changing (for 2025)

  • Payroll reporting: No updates to W-2, 1099, or federal withholding tables this year.

  • Other types of overtime: State-mandated daily overtime (e.g., California’s after 8 hours/day), union contract premiums, holiday double-time, or extra pay for exempt employees do not qualify for the deduction.

  • Taxes: Overtime and tips remain subject to Social Security, Medicare, and state/local taxes.

IRS Transition Rule for 2025

The IRS has confirmed:

  • Employers will need to report the qualified tips and qualified overtime compensation. Since the IRS is not changing the Form W-2 for Tax Year 2025, it remains to be seen where employers will be expected to report these amounts. We expect that box 14 may be an appropriate place for TY 2025.

  • Employers may use a reasonable method to approximate FLSA qualified overtime premiums paid in 2025.

  • Beginning in 2026, W-2 reporting is expected to change (including new codes for reporting qualified tips and qualified overtime in box 12).

  • Beginning in 2026, employers will be expected to track the exact amount of qualified overtime compensation (i.e., the half-time overtime premium owed under the FLSA) even if it pays overtime based on more generous standards (e.g., state law, union contracts, company policies). The qualified overtime amount will not need to be reported on wage statements, so employers may need to run a "shadow" calculation of the overtime premium that qualifies for the deduction. 

Frequently Asked Questions

Does California’s daily overtime qualify?
No. Only FLSA overtime (hours over 40/week) qualifies. State rules like daily overtime are not deductible. However, premiums that would also be owed due to the FLSA do qualify. For example, if an employee worked 9-8-8-8-8 for a total of 41 hours and the ninth hour on Monday is coded as “California daily overtime” it must also be recorded that the employee worked one hour of FLSA overtime that qualifies for the deduction.

Do holiday pay or double-time hours qualify?
No. Only the FLSA-required “half-time” overtime premium is eligible.

What about union or company policy overtime premiums?
No. Unless it meets the federal FLSA definition, these premiums do not qualify. Any premium that would also be required by the FLSA does qualify. For example, if a union contract requires “double time” for hours worked on Saturday, and those hours are also over 40 in the week, then the “half-time” portion of the premium qualifies even if the additional half-time amount does not.

Do exempt employees who get extra pay qualify?
No. Exempt employees are not subject to FLSA overtime rules.

Do tips qualify?
Yes. Qualified tips can be deducted, but remain subject to Social Security, Medicare, and state/local taxes.

Do employers need to track exact FLSA overtime in 2025?
Not yet. For 2025, a reasonable approximation is acceptable. Exact tracking will be required starting in 2026.

 

What Empeon Will Do for You

At Empeon, we know these changes can feel overwhelming and it’s our job to make compliance easier for you. Here’s what you can expect from us:

  • New Overtime Reporting (Coming Soon)
    We are developing a way to help clients report overtime premiums for the 2025 tax year in box 14 of the W-2. While employers have not been required to track FLSA overtime separately for most of 2025, we will be providing a way to track overtime in the system and you'll have a chance to review these figures prior to processing W-2s in our Year End Portal.

  • Guidance Aligned with IRS Rules
    As the IRS releases further guidance, Empeon will ensure the software aligns with federal requirements. Our goal is to make sure your payroll processing remains accurate without extra administrative burden.

  • Ongoing Updates
    While some details are still being finalized at the federal level, we are committed to providing timely updates, tools, and best practices as soon as they are available.

In short: you don’t have to figure this out on your own. Empeon will give you the tools and support you need to stay compliant and help your employees take advantage of these new deductions.

✅ Next Steps:
Stay tuned for product updates and additional resources from Empeon as more IRS guidance is released.