Is There Tax on Overtime? 2026 Rules (OBBB Update)

Yes, there is tax on overtime — but with a major exception starting in 2025. The One Big Beautiful Bill Act (OBBB) created a “No Tax on Overtime” provision allowing workers to deduct up to $25,000 of qualifying overtime pay from federal income tax for tax years 2025-2028.

This doesn’t mean overtime is fully tax-free. Here’s exactly what’s taxed and what’s exempt.

What’s exempt under “No Tax on Overtime”

For tax years 2025 through 2028 only, qualifying overtime is exempt from:

✅ Federal income tax (up to $25,000 per year)

That’s it. Everything else still applies.

What’s still taxed on overtime

❌ Social Security tax (6.2% on all wages including OT, up to $184,500 in 2026) ❌ Medicare tax (1.45% on all wages including OT, no cap) ❌ Additional Medicare (0.9% on wages over $200K single) ❌ State income tax (varies by state — most still tax OT) ❌ City/local income tax (in jurisdictions that have it) ❌ Federal income tax above $25,000 OT per year (excess is taxed normally)

So if you earn $30,000 in overtime:

$25,000 is exempt from federal income tax
$5,000 is taxed normally for federal income tax
All $30,000 is subject to Social Security, Medicare, and state tax

What counts as “qualifying overtime”?

The exemption applies to FLSA-defined overtime — generally 1.5x premium pay for hours over 40 per week (or daily OT under state law).

Qualifies:

Hours over 40 per workweek (federal FLSA)
Hours over 8 in a workday in California (state OT)
Hours over 12 in a workday in California (double-time)
7th consecutive day of work in California (premium hours)

Does NOT qualify:

Holiday pay premiums (1.5x for working a holiday)
Shift differentials (extra pay for night shifts)
On-call pay
Special assignment pay
Bonus and incentive pay
Commissions
Exempt salaried employees’ “extra hours” (you don’t get OT to begin with)

Who’s eligible

Non-exempt employees under FLSA (entitled to overtime)
Single filers with MAGI under $250,000 (phase-out begins above this)
Married filing jointly with MAGI under $500,000
Have W-2 reporting with overtime identified

Not eligible:

Exempt salaried employees (managers, professionals, certain admin) — you don’t get OT to begin with
Independent contractors / 1099 workers
Those earning above the phase-out thresholds
Self-employed earning premium hours

How it actually works on your paycheck

Two ways the deduction reaches your paycheck:

Option 1: Updated W-4 (during 2025-2028)

Employer reduces federal income tax withholding on qualifying OT
Your weekly take-home is higher right away
IRS issued updated 2025 W-4 with new instructions for this

Option 2: Refund at tax filing time

If your W-4 wasn’t updated, you still get the benefit on Form 1040
You’ll owe less federal tax (or get bigger refund) at year-end
Slower but works retroactively

Tax savings examples

Example 1: Manufacturing worker, $25/hr, 10 hours OT/week year-round

Annual gross OT pay: $25 × 1.5 × 10 × 52 = $19,500 (under $25K cap)
Tax bracket: 22% (single filer earning ~$80K total)
Federal tax saved on OT: $19,500 × 22% = $4,290
FICA on OT (still owed): $19,500 × 7.65% = $1,492
Net benefit: ~$4,290 less federal tax

Example 2: Nurse, $40/hr, 20 hours OT/week (high earner)

Annual gross OT: $40 × 1.5 × 20 × 52 = $62,400 (over cap)
Eligible for exemption: $25,000
Excess taxed normally: $37,400
Federal tax saved (at 24% bracket): $25,000 × 24% = $6,000
Federal tax owed on excess: $37,400 × 24% = $8,976 (still owed)
FICA on full OT: $62,400 × 7.65% = $4,774

State law variations

Each state decides whether to follow the federal “No Tax on Overtime” rule. As of 2026:

States that conform (no state tax on qualifying OT, same rules as federal):

Alabama, Mississippi (early adopters)
Most likely: Florida, Texas, Tennessee, Wyoming, Nevada (already no state income tax)

States that DO NOT conform (state still taxes overtime fully):

California, New York, Illinois, New Jersey (most blue states with income tax)
Most other states with income tax

States adopting partial conformity:

Pennsylvania, Ohio, Michigan, Georgia, Massachusetts (varies)

Check your specific state: state income tax rules change frequently. Look at your state’s 2025-2026 tax instructions to see if your state followed federal.

How to maximize this deduction

Volunteer for OT shifts during 2025-2028 — limited-time benefit
Track OT carefully to ensure W-2 reports it correctly
File 2025-2028 returns even if you usually skip filing — refund opportunity
Check your state law — some allow stacking federal + state OT exclusions
Update your W-4 if you want bigger paychecks now (vs refund later)

Common questions

Q: Will my employer automatically handle this? A: They should adjust withholding via the new 2025 W-4. If they don’t, you’ll get the benefit at tax filing.

Q: What if my employer doesn’t track OT separately? A: They must — FLSA requires accurate time records. Box 12 of your W-2 should show OT with code “TT” (new code added by IRS in 2025).

Q: Does this apply to gig workers / 1099? A: No. The deduction is for W-2 employees only. Independent contractors don’t have “overtime” in the FLSA sense.

Q: Is the $25,000 cap per person or per family? A: Per person. Married couple where both work OT: each can deduct up to $25,000 = up to $50,000 combined.

Q: What if I work multiple jobs? A: The $25,000 cap applies across all your W-2 income combined.

Q: Will it last past 2028? A: Unknown. The provision sunsets at end of 2028 unless Congress extends. Plan to maximize during the window.

Pre-OBBB: How was overtime taxed before?

Before 2025, overtime was taxed exactly like regular wages:

Federal income tax: progressive brackets (10-37%)
FICA: 7.65% (Social Security + Medicare)
State tax: where applicable

The “No Tax on Overtime” provision is one of the largest middle-income tax cuts in recent decades — projected to benefit ~12 million US workers earning premium hours.

No Tax on Overtime Calculator — Calculate your specific deduction
Overtime Calculator — Calculate OT pay
Time and a Half Calculator — Standard 1.5x rate
Take-Home Pay Calculator — Including OT exclusion

If you regularly earn overtime, the 2025-2028 window is a meaningful tax planning opportunity. Don’t miss filing the right paperwork.