When the OBBB passed and people started saying “no tax on overtime,” my phone lit up. Some were excited. Others were confused. A few were already planning how to “optimize” their payroll.
Here’s what I told every single one of them: the overtime tax break is real — but it’s not as big as the headline suggests, and it’s not automatic.
If you worked overtime in 2025, you may be owed money back in 2026 when you file your return. But that only happens if you understand three things clearly. First, only a specific portion of overtime qualifies. Second, there are income limits. Third, the math is simpler than most people think — if you look at it the right way.
Let’s walk through this in plain English, with real numbers.
What the OBBB Actually Changed
The new rule allows a deduction for qualified overtime compensation. It is an above-the-line deduction. That’s important. You don’t need to itemize to claim it. It reduces your adjusted gross income directly.
If you’re single, you can deduct up to $12,500 of qualified overtime premium. If you’re married filing jointly, the limit doubles to $25,000. Married filing separately does not qualify.
Notice I said qualified overtime premium. That word premium is doing a lot of heavy lifting.
This deduction only applies to the extra amount you earn above your regular hourly rate. Not the entire overtime check, it doesn’t mean bonuses, earned tips, or shift differentials. Just the premium portion.
That’s where most people get it wrong.
What Actually Counts as Overtime
Overtime is defined under the Fair Labor Standards Act as hours worked over 40 in a workweek for non-exempt employees. If you are exempt, you do not qualify for overtime at all — which means you do not qualify for this deduction.
Let me make this practical.
If you earn $30 per hour and your overtime rate is time-and-a-half, that means you earn $45 per hour for overtime. The base $30 is still taxable. The extra $15 is the premium.
The formula is simple: Overtime premium equals overtime pay minus base pay.
That’s the entire rule in one line.Only the difference between your base hourly rate and the overtime rate qualifies.
Let’s Run the Numbers — Hourly Example
Suppose you earn $30 per hour and work 400 overtime hours in 2025. Your overtime rate is $45 per hour.
First, calculate the base portion of those 400 hours. Four hundred hours times $30 equals $12,000. That is fully taxable.
Now calculate the premium portion. The extra $15 per hour times 400 hours equals $6,000.
That $6,000 is the qualified overtime premium. Not the full $18,000 you saw on your pay stub. Just the $6,000 difference.
Next, we look at income limits. If you are single, the phaseout begins at $150,000 of modified adjusted gross income. If you are married filing jointly, it begins at $300,000.
In this example, let’s say your total income is $95,000. You’re well below the phaseout. That means you get the full $6,000 deduction. Now the real question people ask me: what does that mean in dollars?
If you’re in the 22 percent bracket, you multiply $6,000 by 22 percent. That equals $1,320. That’s roughly how much federal income tax you may have overpaid during the year and could receive back as a refund.
That’s real money. Not life-changing — but meaningful.
Understanding the Phaseout Rules
Here’s where planning comes in.
The phaseout starts at $150,000 for single filers and $300,000 for married filing jointly. For every $1,000 above those thresholds, you lose $100 of the deduction.
That means if you are slightly above the limit, you may still qualify for part of it.
Modified Adjusted Gross Income (MAGI) matters here. Contributions to a 401(k), a Health Savings Account, or certain IRAs can lower your income enough to preserve the deduction.
I’ve already had conversations where someone was just over the line. A retirement contribution brought them back under. That’s what strategy looks like.
Salaried Workers — Here’s Where It Gets Confusing
Many people assume that if they are salaried, this does not apply to them. That’s not always true.
The real question is whether you are exempt or non-exempt. Salary alone does not determine eligibility. Exempt status does.
If you are non-exempt and eligible for overtime, you must convert your salary into an hourly equivalent. The law assumes 52 weeks per year at 40 hours per week, which equals 2,080 hours annually.
Let’s say you earn $150,000 per year. Divide that by 2,080 hours. That equals roughly $72 per hour. If your overtime rate is time-and-a-half, that’s $108 per hour. The premium portion is $108 minus $72, which equals $36 per hour.
If you worked 200 overtime hours, multiply 200 by $36. That equals $7,200 of qualified overtime premium.
If your income sits right at $150,000 and you are single, you are at the phaseout threshold but not over it. That means you can claim the full $7,200 deduction.
At a 22 percent tax rate, that’s roughly $1,584 in federal tax savings. Again, not a loophole. Just math.
Married Filing Jointly — Real-World Example
Let’s say one spouse earns $75,000 and the other earns $200,000. Total household income is $275,000.
Spouse one works overtime and has $8,000 of qualified overtime premium. The phaseout for married filing jointly starts at $300,000. This couple is below that line. They get the full $8,000 deduction.
If they’re in a 24 percent bracket, that equals $1,920 in federal tax savings. Even though one spouse earns over $200,000, the couple still qualifies because it’s based on joint income. This is why understanding the filing status rules matters.
What This Does Not Affect
This deduction applies only to federal income tax.
It does not reduce Social Security or Medicare tax. There is not an automatic reduction of state income tax unless your state conforms to the federal rule. That distinction is critical. When clients call and say,
“So overtime is tax free now?”
I immediately clarify that payroll taxes still apply. This is an income tax deduction. Nothing more.
How to Calculate This Using Your Pay Stub
For 2025, employers may not clearly break out the overtime premium portion on your W-2. Starting in 2026, reporting becomes more standardized.
For now, you may need to look at your pay stubs.
You’ll want to identify your base hourly rate, your overtime rate, and your total overtime hours worked. Subtract the base rate from the overtime rate. Multiply the difference by your overtime hours.
That gives you your qualified overtime premium. Then compare your total income to the phaseout thresholds. Finally, multiply your qualified premium by your marginal tax rate to estimate your refund impact.
The Traps Most People Miss
Not all extra pay qualifies. Bonuses do not count. Tips do not count. Shift differentials do not count.
Only the premium portion counts. The difference between your base rate and your overtime rate.
Exempt employees do not qualify at all. High earners may lose part or all of the deduction through phaseouts. And most importantly, this is a deduction, not a credit. That means your actual savings depend on your tax bracket.
When I explain this to business owners, I remind them that the headlines are designed to excite. The tax code is designed to define.
What This Means for Business Owners
If you own a business with hourly employees, this change can improve morale. Your team may see larger refunds next year. That can help retention without increasing your payroll cost.
If you are an S-Corp owner paying yourself a reasonable salary, this does not suddenly allow you to call your distributions “overtime.” The IRS has decades of precedent around substance over form. Creativity without compliance leads to audits.
Smart planning is boring. It follows the rules and uses them fully.
This overtime deduction is real. It is narrower than the headlines suggest. And if you understand the math, you can still put meaningful money back in your pocket.
The key is knowing exactly what qualifies, watching the phaseout limits, and calculating the premium correctly.
As always, precision wins.
Welcome to the New Age of Accounting. Let’s begin.
P.S. If you found this article helpful, you’ll love my new book S-Corp Mastery: How Smart Business Owners Maximize Tax Savings & Build a Lasting Legacy. It’s now live and available in a sleek, easy-to-read PDF version. Grab your copy here
Chris is the Managing Partner at Weston Tax Associates, a best-selling author, and a renowned tax strategist. With over 20 years of expertise in tax and corporate finance, he simplifies complex tax concepts into actionable strategies that drive business growth. Originally from Sweden, he now lives in Florida with his wife and two sons.
