IRS Updates Guidance on the New Qualified Overtime Deduction
The IRS has updated its frequently asked questions regarding the new federal income tax deduction for qualified overtime compensation. The updated guidance, issued as Fact Sheet FS-2026-13, revises the original FAQs published in January 2026 and provides additional clarification for employees and employers as they navigate the new rules.
One, Big, Beautiful Bill Act
The deduction was created by the One, Big, Beautiful Bill Act and generally applies to tax years 2025 through 2028. For eligible workers, the deduction generally applies to the portion of overtime compensation that exceeds the employee’s regular rate of pay—the additional “half” of traditional time-and-a-half overtime required under the Fair Labor Standards Act (FLSA).
What Is the Overtime Deduction?
For eligible taxpayers, qualified overtime compensation may be deducted from federal taxable income. The maximum deduction is $12,500 per individual, or $25,000 for married couples filing jointly. The deduction begins to phase out for taxpayers with modified adjusted gross income above $150,000, or $300,000 for joint filers.
Â
Importantly, this is an income tax deduction, not a tax credit. It reduces the amount of income subject to federal income tax, rather than providing a dollar-for-dollar reduction in tax liability.
Â
The deduction is also available whether a taxpayer itemizes deductions or takes the standard deduction.
New Guidance for Employers
One of the most important clarifications in the updated IRS guidance concerns employer reporting.
Â
Beginning with tax year 2026, employers must separately report qualified overtime compensation on Form W-2 in Box 12 using Code TT. The amount reported is the qualified overtime compensation paid during the year and may be greater than the amount the employee ultimately gets to deduct because of the annual deduction limits and income phaseouts.
Â
For example, if an employer pays an employee $30,000 of qualified overtime compensation during 2026, the employer must report the full $30,000 in Box 12, Code TT—even though the employee’s maximum potential deduction is $12,500, or $25,000 for a joint return.
Â
Employers should therefore review their payroll systems and reporting procedures carefully to ensure qualified overtime is being identified and reported correctly.
Â
The IRS also clarified that if an employer discovers an error in the Code TT amount on a Form W-2, the employer generally must issue a Form W-2c, Corrected Wage and Tax Statement, to correct the error.
Employees Should Pay Attention to Their W-2
The new guidance is equally important for employees.
Â
For tax years after 2025, the IRS states that qualified overtime compensation generally must be separately reported on the employee’s Form W-2 in Box 12, Code TT in order to be included in determining the deduction. If an employer omitted or understated the amount, the employee should request a corrected Form W-2c.
Â
Simply having pay stubs showing overtime may not be enough if the employer has failed to properly report the qualified overtime on the required tax statement.
Â
The IRS specifically states that employees cannot use Form 4852, Substitute for Form W-2, to satisfy this separate reporting requirement for the overtime deduction.
Â
This makes reviewing your year-end W-2 particularly important if you worked significant overtime during 2026.
What About Tax Withholding?
Another important clarification addresses federal income tax withholding.
Â
Employers do not automatically reduce federal income tax withholding because an employee may ultimately qualify for the overtime deduction. Overtime compensation remains subject to federal income tax withholding.
Â
However, an employee who expects to qualify for the deduction may submit an updated Form W-4 to account for the anticipated deduction. The 2026 Form W-4 was updated to allow taxpayers to account for the qualified overtime deduction in Step 4(b). The IRS Tax Withholding Estimator has also been updated to take the deduction into account.
Â
For employees who regularly receive substantial overtime, reviewing withholding during the year may help prevent an unnecessarily large tax payment at filing time—or an unexpected balance due.
The Deduction Is Not Simply "All Overtime Pay"
One of the most important points to understand is that the new deduction generally does not allow taxpayers to deduct all of their overtime wages.
Â
For a typical employee receiving time-and-a-half pay, qualified overtime compensation generally represents the additional one-half of the employee’s regular rate that is required under the FLSA.
Â
For example, assume an employee earns a regular rate of $20 per hour and works overtime at $30 per hour. The employee’s qualified overtime compensation would generally be the additional $10 per overtime hour—not the entire $30 overtime wage.
Â
The IRS guidance provides additional rules for determining the regular rate of pay, FLSA hours, workweeks, and other circumstances that can affect the calculation.
What Should Taxpayers Do Now?
For employees who worked overtime in 2026, there are several practical steps worth taking:
Â
Review your pay records. Make sure you understand how your employer is calculating and reporting overtime.
Watch your Form W-2. Beginning with 2026 Forms W-2, qualified overtime compensation should be separately reported in Box 12 using Code TT.
Keep your documentation. Retain pay stubs, payroll summaries and other records supporting your overtime compensation.
Review your withholding. If you expect a significant overtime deduction, consider whether your Form W-4 should be updated.
Ask questions early. If your W-2 appears to omit or understate qualified overtime compensation, contact your employer promptly rather than waiting until tax filing season.
A New Deduction With New Compliance Requirements
The qualified overtime deduction can provide a meaningful tax benefit to eligible workers, but the new rules also create additional reporting and recordkeeping requirements.
Â
The latest IRS guidance makes one thing particularly clear: accurate payroll reporting will be critical. For 2026 and later years, employees will need properly reported qualified overtime compensation to determine the deduction, while employers will need systems capable of identifying and separately reporting the appropriate amount.
Â
Because the rules are new and the IRS continues to refine its guidance, taxpayers and employers should avoid assuming that every dollar labeled “overtime” automatically qualifies for the deduction.
Â
The IRS’s latest guidance is available in Fact Sheet FS-2026-13, which replaces and updates the January 2026 FAQs. The IRS also maintains a separate page explaining the extent to which taxpayers may rely on FAQs and other IRS guidance.
Â
As always, taxpayers with significant overtime income should consider discussing their individual circumstances with their tax professional before making changes to withholding or filing positions.