Key Takeaways
- Beginning with 2026 Forms W-2, employers must separately report qualified overtime compensation in Box 12 using code TT.
- The deduction generally applies only to the overtime premium required under the FLSA, not an employee’s full overtime wages.
- There is no minimum employee threshold, so small businesses with overtime-eligible employees may also be subject to the reporting requirements.
- Businesses using an established payroll provider should confirm that qualified overtime is being captured correctly and that the provider has the information it needs.
- Reviewing payroll processes and employee classifications now can help avoid reporting problems when W-2 season arrives.
If you heard about the new “No Tax on Overtime” deduction when it became law last year, you may assume there’s nothing new to know. For employers, however, 2026 is when the rules become more important from a payroll and reporting standpoint.
The deduction for qualified overtime compensation took effect for the 2025 tax year, but employers were given transitional relief from the new reporting requirements for that first year. Beginning this year, however, employers must separately track and report qualified overtime compensation on employees’ Forms W-2.
That means businesses with overtime-eligible employees need to make sure their payroll systems are capturing the right information now, not discover in January that they weren’t prepared for the new requirement.
The IRS has issued detailed guidance on qualified overtime compensation, including how employers should calculate and report it beginning in 2026.
What Actually Qualifies?
Despite the “No Tax on Overtime” shorthand, all overtime pay has not suddenly become tax-free. The deduction applies to qualified overtime compensation required under the Fair Labor Standards Act (FLSA), and generally only to the portion that exceeds an employee’s regular rate of pay.
For example, assume an overtime-eligible employee normally earns $30 an hour and works five hours of overtime. At time-and-a-half, the employee earns $45 for each overtime hour. Generally, the qualified portion is the additional $15 per hour, or $75, not the full $225 of overtime wages.
Not every employee who works additional hours will qualify, either. The employee must be covered by the FLSA and eligible for overtime under its rules. Employees who are exempt from FLSA overtime requirements do not receive qualified overtime compensation for purposes of this deduction simply because an employer chooses to pay them additional compensation. There is no minimum employee threshold for this reporting requirement, so small employers should not assume they are exempt simply because they have only a few employees. If you have employees who are subject to FSLA overtime requirements, the new reporting rules likely apply.
For eligible taxpayers, the deduction is capped at $12,500 annually, or $25,000 for married couples filing jointly, and begins phasing out at higher income levels. Overtime compensation also remains subject to applicable withholding and employment taxes.
What Employers Need to Report
This is where businesses need to pay particular attention. Beginning with 2026 Forms W-2, employers must report qualified overtime compensation in Box 12 using code TT. The amount reported is the qualified overtime compensation paid to the employee; employers do not reduce it based on the employee’s income or individual deduction limit.
That makes accurate payroll tracking important. In fact, for 2026 and later years, employees generally can’t claim qualified overtime that their employer failed to report properly on Form W-2. If an employer discovers an error, a corrected Form W-2c must be filed and provided to the employee.
What Should You Do Now?
If your business pays overtime, talk with whoever handles your payroll before year-end. If you use an established payroll provider, its system may already be set up to accommodate the new reporting requirements, but you should still confirm that qualified overtime is captured correctly and that you provide the information your provider needs. If you handle payroll internally, make sure your system is tracking qualified overtime compensation separately and is prepared for the new W-2 reporting requirement.
This is also a good opportunity to address questions about exempt versus nonexempt employee classifications with the appropriate employment advisor. The new tax deduction doesn’t change the underlying FLSA rules, but it does make proper classification and reporting more visible.
A little work now can prevent a much bigger headache when W-2 season arrives. If you have questions about how the qualified overtime deduction affects your business or employees, reach out to us for assistance.