As a CPA, I do not often get to share tax updates that feel like a win for both employees and business owners. This year is different. Even though we are already a few weeks into 2026, there is still time to understand and prepare for new federal rules that can benefit many workers and help employers strengthen their payroll systems.
Last summer’s One Big Beautiful Bill (OB3) Act created a new federal tax deduction for qualified overtime and qualified tips. For millions of people in hospitality, retail, healthcare, construction, and other service industries, this change has the potential to increase take‑home pay. It also gives employers a chance to modernize their reporting processes before the new requirements take effect.
A New Tax Deduction for Workers
Beginning with the 2026 tax year, employees who earn qualified overtime or qualified tips will be able to deduct part of that income on their federal tax return. This is especially helpful for workers who rely on overtime or tips to support their families.
Here is how it works. Employees can deduct the premium portion of overtime pay, which is the extra half in time and a half. For example, if someone earns $10 per hour normally and $15 per hour for overtime, the additional $5 per hour qualifies for the deduction.
Tipped workers can deduct up to $25,000 in qualified tips each year. The deduction begins to phase out for individuals with modified adjusted gross income above $150,000, or $300,000 for joint filers.
There is also a limit on the overtime deduction. Workers can deduct up to $12,500 per year, or $25,000 for joint filers.
For employees, this is a straightforward benefit. For employers, it creates an important new responsibility.
What Employers Need to Prepare For
Starting in 2026, employers must track and separately report qualified overtime premiums and qualified tip amounts on each employee’s W‑2. This applies to any business with eligible workers, including restaurants, retail stores, healthcare providers, manufacturers, and construction companies.
To meet the new requirements, payroll systems must be able to:
- Track qualified overtime separately from regular wages
- Capture qualified tips accurately throughout the year
- Produce clean and compliant W‑2s at year‑end
If this information is not captured correctly, employers may face amended filings and employees may miss out on a valuable deduction. With early planning, this transition can be smooth.
Although new reporting rules can feel like another task to manage, this update brings several benefits. Employees keep more of what they earn, which can improve morale and retention. Businesses strengthen their payroll systems, which leads to fewer errors and cleaner audits.
A Little Preparation Goes a Long Way
For business owners, now is the right time to:
- Review your payroll system
- Confirm it can track qualified overtime and tips separately
- Train your team on the new requirements
For employees, this is a good moment to understand how your overtime or tips are reported, keep your own records, and make sure your W‑2 reflects the correct amounts. A small amount of preparation now will prevent headaches later and help ensure everyone receives the tax benefits they qualify for.
We Are Here to Help Answer Your Questions
If you have questions about how these new rules apply to your business or your personal tax situation, H&B CPA is here to support you. Our goal is to make these changes easier to understand and easier to implement so you can stay focused on your work, your goals, and your financial future. We are here to help local Austin and beyond Texas businesses and families make tax planning less taxing!