Signed into law on July 4, 2025, the One Big Beautiful Bill Act (OBBBA) created two headline-grabbing tax breaks that workers have been asking about ever since: "no tax on tips" and "no tax on overtime." Both are real, both took effect for the 2025 tax year, and both run through 2028 — but the details matter, and the popular shorthand oversimplifies how they actually work. Here is what tipped and hourly workers, and the businesses that employ them, need to understand.
This is general information, not individual tax advice — the right treatment depends on your specific situation.
No Tax on Tips: The Real Rules
Eligible workers can deduct qualified tips — voluntary cash or charged tips from customers, including tips shared through a valid tip-pool — earned in occupations the IRS lists as customarily and regularly tipped. The deduction is capped at $25,000 per year. It is available to both employees and the self-employed, though for the self-employed the deduction cannot exceed net income from the business in which the tips were earned. Importantly, the benefit phases out once modified adjusted gross income exceeds $150,000 ($300,000 for joint filers), so it is targeted at working- and middle-income earners.
No Tax on Overtime: Narrower Than It Sounds
The overtime deduction is more limited than the name suggests. You can deduct only the premium portion of overtime — the extra "half" in time-and-a-half pay required under the Fair Labor Standards Act — not your entire overtime paycheck. The maximum deduction is $12,500 ($25,000 for joint filers), and it phases out at the same income thresholds: $150,000 single, $300,000 joint. So if you earn $30 an hour and are paid $45 for an overtime hour, only the $15 premium counts toward the deduction, not the full $45.
It's a Deduction, Not an Exemption
This is the single most misunderstood point. "No tax on tips/overtime" does not mean the money is invisible to the IRS. These are deductions that reduce your taxable income for federal income tax — but the wages are still subject to Social Security and Medicare (FICA) payroll taxes, and still count as income for other purposes. The good news: these are above-the-line deductions, so you can claim them even if you take the standard deduction rather than itemizing.
How to Claim It for 2025
Because the law passed mid-year, the IRS built in transition relief. Under Notice 2025-62, the IRS said it generally will not enforce separate employer reporting of these amounts for the 2025 tax year, and under Notice 2025-69 it explained how individuals can calculate and claim the deductions on their 2025 return even if their employer did not provide separate documentation. Formal W-2 reporting changes are set to begin in 2026. In practice, that means good recordkeeping for 2025 — your pay stubs and tip logs — is what protects the deduction.
What This Means for Employers and Tipped Businesses
If you run a restaurant, salon, or any business with tipped or overtime-heavy staff, expect questions — and expect payroll and reporting changes coming in 2026. Getting your tip tracking and overtime records clean now makes the 2026 W-2 transition far smoother, and helps your employees actually capture a benefit they are entitled to. Accurate payroll bookkeeping is quietly the foundation of all of this.
How VarStan Helps
New tax law is only valuable if you actually apply it correctly. As a CPA-led firm, we help business owners and individuals sort the headlines from the fine print — tracking tips and overtime properly, keeping payroll records clean for the 2026 reporting changes, and making sure eligible clients capture these deductions on their returns. If you or your employees are wondering whether "no tax on tips" applies to you, that is exactly the kind of question worth a quick conversation before filing season.