Overview
We reported in May on the provisions in the House’s One Big Beautiful Bill addressing two of President Trump’s campaign promises – no taxation of tips and overtime. The Senate has now passed its version of the One Big Beautiful Bill, which includes its version of these provisions in sections 70201 and 70202. See our prior blog post here for a detailed discussion of the House provisions. While the basic structure of the provisions are similar, there are differences in the details.
What Stays the Same
Above-the-line deductions for qualified tips and qualified overtime
Like the House bill, the Senate bill would give certain workers an above-the-line deduction for “qualified tips” and “qualified overtime compensation” included on an information return furnished to the individual or reported on a Form 4137 (for tips) for taxable years beginning after December 31, 2024, and ending for taxable years beginning after December 31, 2028. This means the deductions are proposed to be retroactive and proposed to apply to amounts paid even before enactment of the bill. Making this deduction available to the worker creates reporting and withholding obligations for the service recipient, as discussed in more detail below.
In order to be deductible as qualified overtime compensation under the Senate provision, as was true with the House provision, the payment must be overtime paid as required under section 7 of the Fair Labor Standards Act that is in excess of the regular rate (as used in that section) at which such individual is employed. Qualified overtime compensation does not include any amount treated as a qualified tip.
In order to be deductible under the Senate provision, as was the case with the House provision, qualified tips generally must be paid voluntarily to a person who works in an occupation which traditionally and customarily received tips on or before December 31, 2024. The Secretary of the Treasury is directed to provide a list of occupations that traditionally and customarily received tips in 2024 and before within 90 days of enactment.
As was the case in the House bill, the Senate bill provides that workers in certain specified businesses are not eligible for the tip deduction. The businesses excluded are ones providing services in accounting, health, law, actuarial science, athletics, brokerage services, consulting, financial services, or the performing arts. In the case of tips received in the course of a trade or business (other than as an employee of an employer), the deduction is limited to gross income from the business less other deductions allocable to the business.
FICA and SECA still apply
Notably, as was the case with the House provision, the Senate proposal does not mention FICA (social security and Medicare) taxes or self-employment tax, so both qualified tips and overtime would remain subject to those taxes, and employers would continue to be required to withhold FICA taxes on the qualified tips and overtime (to the extent otherwise required).
What Changes in the Senate Bill
Limitations on the deductions
The Senate bill contains limits on the deductions, as did the House version, but the limits are different. First, the deduction for tips is limited to $25,000 per year, while the deduction for overtime is limited to $12,500 per year ($25,000 if a joint return is filed). Additionally, both deductions are phased out for workers with modified adjusted gross income in excess of $150,000 ($300,000 for a joint return). This phase out would seem to replace the provision in the House bill that made the deductions unavailable to workers considered highly-compensated under Internal Revenue Code section 414(q). The Senate version of the provision continues to limit the deductions to workers who have, and who reflect on their income tax returns, work-eligible social security numbers.
In addition, the Senate bill adds that the deduction for both qualified tips and overtime is only available to married taxpayers if they file jointly.
Reporting requirements
The qualified overtime and qualified tip amounts are required to be reported on the Form W-2 for employees, or the Form 1099 (e.g., Form 1099-NEC or 1099-K) in the case of workers treated as non-employees. While the House bill only required that Forms 1099 include information regarding whether the tip is received in an occupation that traditionally and customarily receives tips, the Senate bill now adds this requirement for Forms W-2 as well. The Senate bill also includes a provision requiring that qualified overtime compensation be included on statements, such as Forms 1099, issued to persons not treated as employees under tax laws.
Transition rule for 2025 reporting
Under the Senate bill, there is a transition rule for 2025, under which the information reported for 2025 may approximate a separate accounting of qualified tip and overtime amounts by any reasonable method specified by the Secretary. The transition rule does not address how reporting of the occupation is to be done for tips for 2025.
Changes to withholding requirements effective in 2026
The Senate bill, like the House, directs the Secretary of the Treasury to modify the income tax withholding tables to reflect the deduction for tips and overtime, but only for tax years beginning after 2025. Thus, for 2025, the Senate bill would require no change in income tax withholding and presumably require no changes to the Form W-4.
Open Questions
- Qualified Overtime. It is unclear what information employers will have to track and report as qualified overtime given the no tax on overtime provision defines qualified overtime as “compensation paid to an individual required by section 7 of the [FLSA] that is in excess of the regular rate.” This raises questions as to whether employers will have to track and report overtime actually paid versus only what is minimally required under the FLSA (i.e., 1.5 times the regular rate), noting state overtime requirements can be more generous and can therefore add complexity. Depending on what is required to be tracked and reported, tracking may be administratively burdensome, if not practically impossible without significant reprogramming of time keeping and payroll software, for most employers.
- Amount of Deduction. To the extent the deduction is based on the amount reported to the individual on a Form W-2 or 1099, it is not clear how this will be affected by the transition rule for 2025 which only requires businesses to report approximate qualified tip and overtime amounts. For example, will the deduction be limited to the amount reported on the Form W-2 or 1099, or will workers be able to supplement the information to take a larger deduction if the approximation is lower than actual qualified tips or overtime?
- Withholding and Reporting. While 2025 will be a transition year for reporting of the qualified tips and overtime, and changes to federal income tax withholding will not be required, guidance will still be necessary to understand where on each of the Forms W-2 or 1099 (and with what, if any, coding) the special reporting of qualified overtime or tips, and in the case of tips, whether the worker is in an industry that customarily and regularly received tips, will be required. The forms currently contain no place or space for such reporting and will need to be modified to accommodate the new reporting required. Beginning for 2026, it appears there will be changes to the withholding tables to reflect the availability of the deductions, but it is not yet clear how those changes will be implemented, including whether there will be changes to the Form W-4 to take the qualified tips and overtime deductions into account.
In addition, to the extent reporting on Forms 1099 and W-2 will not be required for 2025 under a liberal interpretation of the transition rule, guidance will be needed as to where and how employers should “approximate a separate accounting of amounts.” Specifically, guidance will be needed as to whether businesses can simply provide workers with pay statements or similar information, and whether information provided outside of Forms W-2 or 1099 will be sufficient to permit the workers to claim the deduction. Guidance will also be required as to how businesses should provide information for 2025 regarding whether the worker is in an occupation that customarily and regularly received tips. - Interplay with Proposed Changes to 1099-K and 1099-NEC Reporting Thresholds. The Senate version of the bill, like the House version, increases the thresholds for reporting required under section 6041 (increasing the reporting threshold to $2,000) and section 6050W (eliminating the reporting requirement with respect to the transactions of their participating payees unless they have earned more than $20,000 on more than 200 separate transactions in an applicable tax period), but does not explain how the amounts for tips and overtime can be reported (and used by the payee to claim a deduction) if the new, higher thresholds for reporting are not met. For example, will businesses with payments below the new thresholds (i.e., those not required to file Forms 1099) be able to report only qualified tips on Forms 1099 in order to permit individuals to claim the deduction without otherwise reporting other information? Alternatively, where Form 1099 reporting is not required as a result of the new thresholds, will non-employee workers be able to voluntarily report the qualified tip income and claim the deduction on the Form 1040 absent a Form 1099 reporting the qualified tips, in the same way employees can use Form 4137 to claim the deduction for unreported tips?
- Application of Overtime Provisions to Non-Employees. It is unclear what workers the Senate has in mind in the provision requiring reporting of qualified overtime compensation to workers not treated as employees under tax laws. For example, is this intended to address situations were workers are reclassified either by the IRS or DOL and then get overtime for a prior year within the effective dates of the provision?
- State Tax Impact. It is unclear whether and which states will similarly exempt qualified overtime or qualified tips from state income taxes and/or state income tax withholding. A few states, such as Alabama, Kentucky, North Carolina, and Nebraska, have enacted legislation or proposed exempting tip and overtime income from state income tax, and others may follow suit. Guidance at the state level as to how such amounts should be reported on Forms W-2 and 1099 for state purposes will also be needed.
Key Takeaway
It appears both houses of Congress support the general concept of no tax on tips and overtime, although the details of what is covered and how to report and withhold are not yet clear. We will continue to follow and report on these provisions as the legislation works its way toward its final form and, if and when the legislation is enacted, as clarifying guidance is released.