Are tips and overtime really tax-free in 2025? How does the new OBBBA deduction work?

The One Big Beautiful Bill Act (OBBBA), signed into law in 2025, introduced two new above-the-line deductions: one for qualified tips and one for overtime pay. These are deductions, not full exemptions — meaning they reduce your taxable income, but tips and overtime are still subject to Social Security and Medicare (FICA) taxes.

### Tips Deduction (2025–2028)

Employees who receive tips in occupations that customarily and regularly received tips as of December 31, 2024, may deduct qualified tips from their taxable income. The IRS has published a list of eligible occupations — primarily food service, hospitality, hair and beauty services, and similar tipped industries.

Key rules:

• Tips must be reported on a W-2, 1099, or similar form
• The deduction is available to both employees and self-employed workers
• Tips from occupations added after December 31, 2024 are not eligible
• The deduction is capped — high earners above certain MAGI thresholds may see a phaseout

### Overtime Deduction (2025–2028)

Employees who receive overtime compensation required by the Fair Labor Standards Act (FLSA) — the "half" portion of time-and-a-half — may deduct it from taxable income.

Limits:

• Single filers: up to $12,500 deductible
• Married filing jointly: up to $25,000 deductible
• Overtime must be reported on your W-2 in a designated box
• Phaseout begins at higher income levels

### What's NOT Covered

• FICA taxes still apply — Social Security (6.2%) and Medicare (1.45%) are not waived for tips or overtime under the OBBBA
• Self-employed individuals setting their own rates are not eligible for the overtime deduction (only FLSA-required overtime qualifies)
• Salaried employees who receive overtime-equivalent bonuses may not qualify

### How to Claim It

Both deductions are claimed on Schedule 1 of Form 1040 as above-the-line deductions — meaning you don't need to itemize to benefit. The IRS updated Form W-2 and W-4 instructions in late 2025 to reflect the new boxes.