The name suggests your overtime pay is now tax-free. For most workers it isn't. The new federal deduction covers only part of your overtime pay, it reduces only one of the taxes taken from your paycheck, and its value depends on your tax bracket. The saving is real, but it is usually hundreds of dollars a year rather than thousands.
Here is what the deduction really covers, with worked numbers for 2026.
Only the "half" counts
The deduction applies to qualified overtime compensation: the part of your overtime pay that the Fair Labor Standards Act requires above your regular rate. For most hourly workers that is the extra half in time-and-a-half.
Take someone paid $25 an hour. An overtime hour pays $37.50:
- $25.00 is your regular rate, which stays fully taxable
- $12.50 is the premium, which is what you can deduct
So 260 hours of overtime in a year (five a week for 52 weeks) earns $9,750, but only $3,250 of that is qualified overtime. That is the number the deduction starts from, not the $9,750.
Overtime you get only because of a state law or a union contract, and any premium above time-and-a-half, generally doesn't count. From 2026 your employer reports the qualifying amount on your W-2 in box 12 with code TT, so you don't have to work it out yourself.
It's a deduction, not an exemption
A deduction lowers your taxable income; it doesn't remove a matching amount of tax. Your saving is the deduction multiplied by your tax rate on that income. A $5,000 deduction is worth $500 in the 10% bracket and $1,200 in the 24% bracket.
It also only affects federal income tax. Social Security (6.2%) and Medicare (1.45%) are still withheld on every overtime dollar, and many states continue to tax overtime as normal.
What it's worth at different incomes
These figures assume $5,000 of qualified overtime premium, a single filer, the 2026 standard deduction of $16,100 and no other deductions. They were calculated with the tips and overtime deduction calculator.
| Income (AGI) |
Deduction allowed |
Federal tax saved |
| $40,000 |
$5,000 |
$600 |
| $60,000 |
$5,000 |
$600 |
| $90,000 |
$5,000 |
$1,100 |
| $130,000 |
$5,000 |
$1,200 |
| $160,000 |
$4,000 |
$960 |
| $200,000 |
$0 |
$0 |
The saving rises with income because higher earners are in higher brackets, then falls away once income passes $150,000. Above that point the deduction shrinks by $100 for every $1,000 of extra income, which is why the $160,000 earner can only deduct $4,000, and the $200,000 earner nothing.
For married couples filing jointly, with $10,000 of qualified overtime between them:
| Joint income (AGI) |
Deduction allowed |
Federal tax saved |
| $80,000 |
$10,000 |
$1,200 |
| $150,000 |
$10,000 |
$2,200 |
| $320,000 |
$8,000 |
$1,920 |
The joint phase-out starts at $300,000, and the overtime cap doubles to $25,000 per return.
The caps
You can deduct up to $12,500 of qualified overtime a year, or $25,000 on a joint return. To reach $12,500 of premium at $25 an hour, you would need 1,000 overtime hours, close to 20 a week all year. The cap mostly matters for higher-paid workers with a lot of overtime.
How tips compare
The tips deduction works differently, and it is often worth more:
- The whole tip counts, not just a premium. A server who receives $15,000 in tips can deduct the full $15,000.
- The cap is $25,000 per return, whatever your filing status.
- The same phase-out applies, starting at $150,000 ($300,000 joint).
A single server with $35,000 of total income, including $15,000 of tips, would see taxable income fall from $18,900 to $3,900. Federal income tax falls from $2,020 to $390, a saving of $1,630, which is more than four-fifths of their federal income tax.
Only tips received in occupations the IRS lists as customarily receiving tips qualify, and only voluntary tips: an automatic service charge added to a bill is not a tip.
Who can't claim
- Married people filing separately. You must file jointly to claim either deduction.
- People without a valid Social Security number for work.
- Overtime not required by federal law, as above, and salaried employees exempt from overtime rules who receive voluntary extra pay.
How to claim
Both deductions go on Schedule 1-A with your Form 1040. You can claim them whether you take the standard deduction or itemize. They apply for tax years 2025 through 2028; unless Congress extends them, 2028 is the last year.
To see your own figure, enter your income, tips and overtime in the calculator. It applies the caps and phase-out and shows your federal tax with and without the deductions.