IRS Issues Guidance on Tips and Overtime Deductions for 2025

When we first wrote about this topic in August 2025, the IRS had not yet issued formal guidance on how the tip and overtime deductions added by Public Law 119-21, 139 Stat. 72 (July 4, 2025), commonly known as the One, Big, Beautiful Bill Act (OBBBA) would be implemented. On November 21, 2025, the Treasury and IRS issued Notice 2025‑69, which provides clarification on how to determine the amount of the deduction if a worker did not receive a separate accounting from their employer for cash tips or qualified overtime.

Background

Among other provisions, the OBBBA provides federal income-tax deductions for a portion of eligible workers’ tips and overtime earnings. The new law applies to taxable years beginning after December 31, 2024, and will remain in effect at least through the 2028 tax year. It remains important to note that these are deductions, not total eliminations of tax. Employers must continue withholding federal Social Security and Medicare (FICA), and any applicable state or local taxes from all tips and overtime wages.

No Tax on Some Tips

• Under the OBBBA, eligible tipped workers may deduct up to $25,000 in “qualified tips” from their income subject to federal income tax. The deduction phases out for taxpayers with modified adjusted gross income (MAGI) above $150,000 (single filers) or $300,000 (joint filers).

• Qualified tips include voluntary cash or charged gratuities, including credit/debit-card tips and tip-pool distributions, as long as the tip was given voluntarily by the payor, not mandated by the retailer as a service charge.

• The deduction applies for employees receiving a W-2, independent contractors receiving 1099-NEC/1099-K, and taxpayers reporting tips on Form 4137.

No Tax on Some Overtime

• The OBBBA also creates a deduction for “qualified overtime compensation” beginning in 2025. For nonexempt employees subject to overtime under the Fair Labor Standards Act (FLSA), only the overtime premium, i.e., the portion of “time-and-a-half” pay beyond the regular hourly rate qualifies.

• For 2025 and subsequent years through at least 2028, eligible individuals may deduct up to $12,500 (single filer) or $25,000 (joint filer) of qualifying overtime pay per year.

• The same phase-out thresholds apply as for the tip deduction: $150,000 for singles, $300,000 for joint filers.

What’s New Since Our Original Post

While the IRS offered guidance on the deductions in Notice 2025-69, they have not yet updated tax forms (Forms W-2, 1099-NEC and 1099-MISC) to include the occupation of the employee receiving tips, the employee is responsible for determining whether the tips received were in an occupation that customarily and regularly received tips on or before December 31, 2024. The IRS states, “employers may choose to provide information on an employee’s occupation or other relevant information to employees using box 14 of Form W-2, in which case employees may rely on that information.” Under Notice 2025-69, taxpayers may use reasonable estimates or employer payroll/tip records, even in absence of a dedicated box on W-2 or 1099 forms.

Also on November 5, 2025, the IRS issued Notice 2025-62, which offers transition-year penalty relief in certain circumstances to employers, payroll services providers, and third-party settlement organizations for tax year 2025.

As noted, to qualify for a tip deduction, the tip must be earned in an occupation that “customarily and regularly” received tips before December 31, 2024. In September 2025, the Internal Revenue Service (IRS) issued a preliminary list of nearly 70 such occupations, including traditional tipped industries like food and beverage service, hospitality, personal services (e.g., salons), recreation/instruction, home services and others.

Considerations for New York Employers

As mentioned above, the federal OBBBA provides federal income-tax deductions for certain tips and overtime premiums beginning with the 2025 tax year. Although these deductions apply nationwide, New York employers face unique compliance obligations due to the state’s strict wage-and-hour rules and enforcement landscape.

New York’s Tip Credit Rules Still Apply - The federal deduction does not change New York’s strict hospitality wage orders, tip-credit rules, or tip-pool restrictions.

Service Charges Are Not “Tips” in New York - Mandatory charges (banquet fees, automatic gratuities, delivery fees) remain service charges, not tips and cannot be considered “qualified tips” for federal deductions.

Overtime Tracking is More Complex in New York - Different regional minimum wages, industry-specific rules, and “spread-of-hours” requirements mean that employers must carefully track the overtime premium separately.

Heightened Enforcement Risk - The NYS Department of Labor are already fielding inquiries from workers about how tips and overtime were and are recorded.

What Employers Should Do Now

• Review payroll and tip-tracking systems. Identify whether your workforce includes employees in occupations that may qualify under the IRS preliminary list.

• Begin tracking and segregating “qualified tips” separately from service charges, automatic gratuities, or other forms of compensation.

• Maintain clear documentation of overtime hours and overtime premiums paid to nonexempt employees, to enable employees to take advantage of the overtime deduction.

• Inform employees about the new deductions — many may be unaware they must separately track tips or overtime premiums to claim the benefit.

• Monitor for updated IRS regulations or final guidance (expected after the 2025 transition period) that may impose stricter reporting requirements or formal W-2/1099-box changes.

Although the OBBBA provides significant federal tax savings for workers, it adds complexity for New York employers — perhaps more than in any other state. New York’s unique wage-and-hour framework, recordkeeping rules, and enforcement environment require employers to take proactive steps now to avoid compliance pitfalls.

We will continue to monitor and provide guidance on how the OBBBA will impact employers. If you have any questions about these provisions or any other Labor or Employment law issues, please contact our Labor & Employment team:

• Paul F. Keneally, 585-258-2882, pkeneally@underbergkessler.com

• Jennifer A. Shoemaker, 585-258-2825, jshoemaker@underbergkessler.com

• Ryan T. Biesenbach, 585-258-2865, rbiesenbach@underbergkessler.com