Two of the most talked-about provisions of the One Big Beautiful Bill Act — the “no tax on tips” and “no tax on overtime” deductions — are now in effect, and workers can start claiming them. The part employers need to hear: beginning with tax year 2026, the job of separately tracking and reporting those amounts on Form W-2 falls on you. And the transition relief that made 2025 forgiving is set to expire.
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What happened
Under IRS guidance implementing OBBBA, eligible workers can deduct up to $25,000 in qualified tips and up to $12,500 in qualified overtime ($25,000 for joint filers), according to the IRS. Both deductions phase out once modified adjusted gross income tops $150,000 (or $300,000 for joint filers). “Qualified tips” means voluntary cash or charged tips in occupations that customarily receive them — wait staff, bartenders, salon workers, and the like — not mandatory service charges.
For the 2025 tax year, the IRS granted transition relief: employers are not required to separately report qualified overtime, and penalty relief applies for those who can’t yet break the figures out, per the guidance summarized by Miller Johnson. Many payroll providers are using Box 14 of the W-2 to report voluntarily in the meantime.
That grace period doesn’t last. Starting with tax year 2026, employers must separately report qualified tips and qualified overtime on Form W-2, and the IRS has said it will issue updated W-2 forms for 2026. Reporting is also expected to require assigning tipped workers a Treasury Tipped Occupation Code (TTOC) drawn from the IRS’s list of qualifying occupations. The technical details live in IRS Notice 2025-69.
Why it matters
This is a classic case of a tax cut for workers becoming a compliance task for employers. The deduction is claimed on the employee’s return — but it only works cleanly if the employer’s W-2 correctly separates qualified tips and overtime from ordinary wages. Get it wrong, and employees can’t substantiate the deduction, and the business is exposed to the IRS’s standard information-return penalties for incorrect or incomplete W-2s. Those penalties run per form and add up fast across a full staff.
As Adams Brown notes, some payroll software vendors have committed to a reporting method and others haven’t — which means the burden of confirming your system is ready sits with you, not your software.
What this means for your business
If you run payroll for tipped or overtime-earning staff — restaurants, salons, retail, trades, hospitality — the window to get ready is now, before January 2026 payroll runs begin:
- Call your payroll provider and get their 2026 plan in writing. Ask specifically how they’ll separately capture qualified tips and qualified overtime, and whether they’ll handle Treasury Tipped Occupation Codes.
- Fix your tip vs. service-charge distinction. Only voluntary tips qualify. If you pool a mandatory large-party gratuity and call it a “tip,” that’s a service charge — and coding it wrong flows straight through to a bad W-2.
- Separate overtime in your books today. The deduction applies only to the premium above ordinary wages. If your bookkeeping doesn’t already isolate that spread, start now so 2026 isn’t a scramble.
- Consider reporting voluntarily for 2025. It’s not required, but a clean Box 14 figure helps your employees claim the deduction this filing season and lets you test your process before it’s mandatory.
Beginning with tax year 2026, employers must separately report qualified tips and qualified overtime on Form W-2 — the 2025 penalty relief was a one-year on-ramp, not the permanent rule.
The bottom line
“No tax on tips and overtime” is a win for a lot of workers, but for employers it’s a new line of payroll compliance with a hard start date. The businesses that talk to their payroll provider and clean up their tip and overtime tracking this summer will glide into 2026. The ones that wait until W-2 season will be untangling a year of commingled wages under penalty pressure.
