New Federal Deductions for Tips and Overtime Pay

Millions of American workers stand to benefit from new federal deductions for tips and overtime pay, enacted under the One Big Beautiful Bill, signed into law earlier this month. While these provisions aim to reduce the tax burden for service industry and hourly workers, many eligibility and implementation details remain pending Treasury clarification.

What Are the New Deductions?

Tip Income Deduction

• Workers earning qualified tips may deduct up to $25,000 from federal taxable income.

• Eligibility phases out for higher AGI levels (phase-out thresholds pending IRS guidance).

• Applies to 2025 through 2028 tax years.

Overtime Pay Deduction

• Workers earning overtime pay can deduct up to $12,500 from federal taxable income.

• Available for 2025–2028 tax years as well.

• Eligibility may include both hourly and salaried workers paid time-and-a-half under FLSA rules.

  
  

Estimated Taxpayer Savings

According to preliminary Treasury models:

Worker Type	Average Annual Deduction Claimed	Estimated Annual Tax Savings
Full-time tipped worker	$18,000	~$1,800
Full-time overtime worker	$10,000	~$1,400–$1,750

Documentation and Compliance Considerations

The Treasury Department is expected to release formal guidance by October 2025 addressing:

• What constitutes “qualified tip income” (e.g. pooled tips, credit card tips, cash tips declared).

• Employer reporting obligations to support worker deductions.

• Whether overtime deduction eligibility extends to salaried non-exempt employees under FLSA classifications.

• Adjustments to IRS forms and W-2 reporting boxes to track and validate deductions.

Policy Rationale

Proponents argue these deductions:

• Provide immediate tax relief for hourly and service industry workers

• Counteract inflationary wage stagnation effects

• Encourage formal tip reporting by creating a tax incentive

  
  

However, critics note that eligibility phase-outs may limit relief for middle- and upper-income dual-earner households and that these temporary deductions expire after 2028 without automatic renewal.

Planning Implications for Tax Professionals

• Review employer payroll systems to ensure proper reporting of tips and overtime for 2025 onward.

• Educate clients in tipped occupations on record-keeping best practices to maximize deductions.

• Model combined impacts with other provisions from the One Big Beautiful Bill, including standard deduction changes, child tax credit expansion, and SALT cap adjustments.

• Monitor Treasury guidance by October 2025 to advise on eligibility certifications and filing mechanics.

  
  

How Bizora AI Supports Your Firm

Bizora AI monitors every federal deduction update and implementation guideline in real time, enabling tax professionals to:

• Generate memos explaining new tip and overtime deductions for service industry clients

• Calculate tax savings scenarios across different AGI levels and income types

• Draft year-end planning recommendations for restaurant, hospitality, and hourly worker client segments

  
  

Want a structured breakdown of eligibility and projected savings for your clients? Ask Bizora AI for real-time, source-backed insights.