The IRS recently updated its guidance on the federal deduction for qualified overtime compensation, providing new reporting requirements that take effect beginning in tax year 2026. The updated guidance includes additional details on eligibility, reporting obligations, and how employees claim the deduction.

Under the updated guidance, employers must separately report qualified overtime compensation on employees’ Forms W-2 using Box 12, Code TT. The IRS also clarified that employees generally can claim the deduction only for overtime amounts reported on their W-2. If the amount is incorrect, a corrected Form W-2c may be required before an employee can claim a larger deduction.

Who Qualifies?

Not all overtime compensation qualifies for the deduction. The deduction generally applies only to certain overtime compensation required under the federal Fair Labor Standards Act (FLSA). In most cases, employees may deduct only the overtime premium portion of their pay, not their entire overtime wages. For most FLSA overtime-eligible employees, qualified overtime compensation for a workweek can be calculated as follows:

Eligibility depends on whether an employee is covered by the FLSA’s overtime rules, and many employees classified as exempt from those rules generally will not qualify. The IRS’s updated guidance also includes additional information regarding FLSA coverage and exemptions.

What Employers Should Do

Employers should review payroll, timekeeping, and year-end reporting processes to ensure qualifying overtime pay is properly identified, tracked, and reported for the 2026 tax year. Businesses should also work with payroll providers to confirm systems can separately report qualified overtime compensation as required. Employers that report incorrect amounts may need to issue corrected forms and could face reporting penalties.

The IRS also reminded taxpayers that overtime pay remains subject to federal income tax withholding and payroll taxes. The provision allows eligible workers to claim a deduction on their tax return; it does not make overtime earnings tax-free.

Bottom Line

While the deduction itself remains largely unchanged, the IRS has established new reporting requirements that place greater responsibility on employers to accurately identify and report qualified overtime compensation. Employers should review their processes now to avoid reporting issues and ensure employees receive accurate information when claiming the deduction.

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