When President Trump signed the One Big Beautiful Bill Act (“OBBBA”) into law on July 4, 2025, it included a provision that allows federal tax deductions for qualified tips and qualified overtime compensation. Public Law 119-21, 139 Stat. 72 (July 4, 2025). The Bill provides for a phased-in implementation allowing for retroactivity for qualified tips and overtime earned in 2025.
The passage of the OBBBA brings significant tax changes for workers but it also imposes important new reporting responsibilities on employers. Understanding these obligations and their implications is essential for businesses, especially in sectors like hospitality, healthcare, and manufacturing.
New Reporting Requirements for Employers
On the Form W-2 / Form 1099:
- Employers must report the amount of qualified overtime compensation on an employee’s Form W-2 (or equivalent statement). Only overtime mandated by the Fair Labor Standards Act (“FLSA”) is covered.
- Generally, the FLSA (29 U.S.C. § 207) requires that most employers pay not less than time and a half for hours worked in excess of 40 hours per week. Some industries are covered by other federal law and may not be covered under the FLSA.
- The “qualified” portion or overtime premium is the “half” portion of the time and a half rate paid to employees for hours worked in excess of 40 per week.
- For tip earners, employers need to separately identify “qualified tips” and report the occupation of the employee. Not all occupations are covered and Treasury has put out a list of covered tip-occupations.
Employers must also provide an information statement to employees that delineates the amounts of qualified overtime and tips, as well as the relevant occupation for tipped workers. Suggestions for this additional reporting requirement include utilizing an online portal, providing a written statement or using Box 14 on Form W-2.
Penalty Relief for 2025: A Transition Year
Given the short time frame for compliance, as well as the retroactivity of OBBBA, the IRS has issued transition relief only for the 2025 tax year for employers. In addition, the relief applies only if the aggregate compensation is correctly reported (e.g., even if the detailed breakout is not provided, the total wages must be accurate). Just for 2025, the onus is on the employee to calculate the “qualified” amount.
- Under IRS Notice 2025-62, for tax year 2025, employers will not face penalties under IRC §§ 6721 (failure to file correct returns) or § 6722 (failure to provide correct statements) if they do not separately report the qualified overtime compensation or the occupation and cash tip amounts – so long as their return is otherwise complete and correct.
- For 2025, Forms W-2 and 1099 will remain unchanged, and employers may continue to rely on existing payroll systems.
Risks and Strategic Implications for Employers
Even with the transition relief for 2025, the new requirements under OBBBA raise several important strategic, operational and compliance risks for employers.
Payroll System Readiness:
- Payroll systems will need updating to track overtime in a way that distinguishes the “qualified” portion (e.g., the “half-time” premium under FLSA) from base wages.
- Employers will also need to clearly identify which employee roles are likely to qualify as “tipped occupations” also necessitating updates to payroll systems.
Employee Communication:
- Because this is a deduction claimed on an individual’s tax return, rather than through payroll withholding, employees will need detailed statements to take full advantage of the new benefit.
- Employers may face pressure from staff, particularly in a high-tip business, to provide clear, timely reports.
- Employers must also ensure that accurate information is disseminated to employees.
Compliance Risk after 2025:
- The penalty relief is only limited to 2025. Beginning in 2026, Forms W-2 and 1099 will need to be updated to require separate reporting of the qualified amounts.
- Employers could face penalties if they fail to track and report correctly once the mandatory reporting begins.
Classification Risk:
- “Qualified overtime” only refers to overtime required under the FLSA. Overtime paid under state law, a collective bargaining agreement or voluntary employer policies may not fully qualify. It is important to understand all applicable laws and regulations.
- Employers who elect to pay overtime beyond that required under FLSA minimum standards may find that portion is not eligible for the deduction, which would further complicate record-keeping.
Operational Burden:
- Given the additional requirements, to enable detailed reporting employers may need to re-examine their timekeeping, accounting and payroll processes. For those who rely on a third-party payroll provider, it is imperative that the employer verify with that provider that they are meeting all reporting requirements to ensure compliance.
- It may also necessitate an agreement with that third party payroll provider for indemnification against inaccurate reporting.
- Industries with diverse tipped roles and frequent job changes (e.g. hospitality) may face additional complexity in tracking which tip earning occupations apply.
What Can You Do Now?
Start planning now. Though the detailed reporting requirement does not begin until 2026, early comprehensive planning avoids compliance issues later. Begin assessing payroll technology and data systems, work with third party providers and gain clear understanding of the requirements to ensure readiness for 2026.
Seek advice prior to implementing updates to ensure your payroll system will satisfy the reporting requirements. Determine whether current systems can support the separate tracking of qualified overtime and tips.
Consult with counsel to define policy and process. Establish internal guidelines for calculating “qualified” overtime and how tipped occupations will be identified.
Train and communicate. Educate human resources, payroll and accounting teams on the new requirements under OBBBA. Communicate with employees about the reporting changes.
Take advantage of the 2025 Transition Period. Use the transition year to consider new reporting workflows, ask for employee feedback and refine your processes before full compliance is required in 2026.
Conclusion
The OBBBA’s “no tax” provisions for qualified overtime and tips represent a potentially meaningful benefit for many workers, but they also create a significant compliance burden for employers. While the IRS is offering temporary relief for 2025, the real test will come in future years, when separate reporting becomes mandatory. Employers that act proactively to update systems, establish clear policies, and communicate transparently with employees will be best positioned to navigate the new landscape and support their workforce effectively.
The St. Louis employment attorneys at McMahon Berger have been representing employers across the country in labor and employment matters for over sixty years and are available to discuss these issues and others. As always, the foregoing is for informational purposes only and does not constitute legal advice regarding any particular situation as every situation must be evaluated on its own facts. The choice of a lawyer is an important decision and should not be based solely on advertisements.
