IRS Updates the Rules for 'No Tax on Overtime' - Here's What's Different for Your Paycheck This Year
Overtime pay has always come with a catch: Work the extra hours, and taxes take a bigger bite before the money hits your account. However, the One Big Beautiful Bill Act signed into law in July 2025 changed that. Eligible workers can now deduct some of their overtime pay from their federal taxable income.
The IRS just released updates on a set of FAQs about the deduction for qualified overtime compensation, and the mechanics of claiming it look different come filing season. Here's what changed and how it affects your next paycheck.
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Overtime Now Requires Separate Reporting on Your W-2
Beginning tax year 2026, employers are required to report qualified overtime compensation separately on Form W-2 (box 12, code TT).
However, if contractors are treated as employees under the Fair Labor Standards Act but classified as independent contractors for tax purposes, the amount is reported on Form 1099-MISC (box 14) or Form 1099-NEC (box 1d).
That’s a change from 2025, when the IRS provided transition relief to employers and didn’t require this separate line item at all.
Your Deduction Now Depends on What Your Employer Reports
Starting in 2026, an employee can only deduct qualified overtime pay that the employer reported separately on the W-2 in (box 12, code TT).
If your employer reports a lower amount, your only choice is to request a corrected Form W-2c. A substitute form such as Form 4852 will not satisfy the requirement and cannot be used to claim the difference. And if your employer refuses to make that correction, you’re stuck reporting the lower, incorrect number, even if you can prove you earned more.
On the other hand, if your employer inflates the amount on your W-2, you can only claim what you actually earned, not the inflated number on the form. In 2025, workers who had not had a clean breakdown from their employer could use pay stubs or payroll statements to estimate their qualifying overtime. That workaround is not available for 2026 and beyond.
Employers Report the Full Amount, Not Just What's Deductible
Qualified overtime compensation is the portion of overtime pay above your regular rate, usually the half-time premium instead of the full-time-and-a-half payment.
Employers report the entire qualifying amount under code TT even if it’s more than you’re allowed to deduct. For example, an employer that paid $26,500 in qualified overtime reports the full $26,500, though the deduction itself is limited to $12,500, or $25,000 for joint filers.
Withholding on Your Paycheck Isn't Changing
That deduction is only for when you file your return. Qualified overtime pay is still subject to federal income tax withholding, and payroll cannot reduce that withholding based on an employee’s expectation to claim the deduction.
To have your withholding adjusted to reflect the deduction, you need to submit an updated Form W-4. There’s now a spot for this in Step 4(b) of the Form W-4.
Errors on Your W-2 Have a Formal Fix
If an employer discovers an error on Form W-2, box 12, code TT, he or she must file a corrected Form W-2c with the Social Security Administration and give a copy to the employee immediately.
If you think that your qualified overtime figure is incorrect, raise the issue directly with the payroll department of your employer, rather than trying to adjust the number on your return.
This article was provided by MoneyLion.com for informational purposes only and should not be construed as financial, legal or tax advice.
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