Is Overtime Taxed? The New Federal Deduction Explained

Yes, overtime is taxed. For federal purposes it counts as ordinary wages, so it is subject to federal income tax, Social Security, and Medicare withholding at the same rates as your regular pay. What changed in 2025 is that a new federal deduction lets many workers write off the overtime premium portion on their income tax return, capped at $12,500 (or $25,000 on a joint return) and phased out at higher incomes. Payroll taxes still apply to every overtime dollar, and the withholding on an overtime-heavy paycheck often looks steeper than the tax you actually owe for the year.

How Overtime Is Taxed at the Federal Level

The Internal Revenue Code defines “wages” as all pay for services performed by an employee, whether those hours are regular or overtime.¹ There is no separate tax category for overtime. Every overtime dollar counts toward your total gross income for the year, just like your base hourly or salary pay.

Because overtime is wages, FICA payroll taxes apply. Your employer withholds 6.2% for Social Security on earnings up to the 2026 wage base of $184,500, plus 1.45% for Medicare with no cap.² Federal income tax is withheld from each check based on your earnings and your W-4. No hidden overtime surcharge exists in the tax code. The same rates that apply to your regular pay apply to your overtime pay.

Why Overtime Paychecks Look So Heavily Taxed

The reason overtime paychecks feel over-taxed usually comes down to how payroll systems handle withholding, not any special overtime rate. The IRS classifies overtime as supplemental wages, and employers can withhold on supplemental wages in one of two ways.³

The first approach is a flat 22% withholding on the overtime portion. Many payroll departments use this because it is simple: the system identifies the overtime pay, separates it from regular wages, and withholds a flat 22% for federal income tax.³ If your actual effective tax rate is lower than 22%, this method temporarily over-withholds. For workers whose supplemental wages exceed $1 million in a calendar year, the flat rate jumps to 37%.

The second approach is the aggregate method. Payroll software combines your regular and overtime pay into a single amount and projects it over the full year. If you normally earn $1,000 per week but bring home $1,600 during an overtime-heavy week, the system may calculate withholding as though you earn $83,200 a year instead of $52,000. That pushes withholding for that check into a higher bracket.⁴ The excess comes back to you as a refund when you file, but it can sting in the moment.

Neither method changes how much you actually owe for the year. Both are estimates. Working overtime will never leave you with less total take-home pay than if you had skipped those hours. The federal tax system is progressive, and higher rates apply only to income above each bracket threshold, not to everything you earned.

The New Federal Deduction for Overtime Pay

Starting with the 2025 tax year, a new provision under Section 225 of the Internal Revenue Code lets workers deduct their “qualified overtime compensation” from federal income taxes.⁵ The deduction applies only to the overtime premium, not your entire overtime paycheck. If you earn time-and-a-half, the deductible amount is the extra “half” above your regular rate.⁶ If your regular rate is $30 an hour and you earn $45 for overtime hours, only the $15 premium per hour qualifies.

The deduction has several built-in limits:

Annual cap of $12,500 per taxpayer, or $25,000 on a joint return.⁵
The deduction shrinks by $100 for every $1,000 your modified adjusted gross income exceeds $150,000 ($300,000 on a joint return), disappearing entirely at $275,000 for single filers and $550,000 for joint filers.⁵
Married taxpayers must file jointly to claim it.
The deduction expires after the 2028 tax year.

This deduction reduces your federal income tax only. Social Security and Medicare taxes still apply in full to all overtime earnings. You claim it on Schedule 1-A when you file your Form 1040.⁷

For 2025 tax returns, employers are not required to separately report qualified overtime compensation on your W-2, though some may choose to. Starting in 2026, employers must report the amount separately.⁶ If your 2025 W-2 does not break out overtime pay, you can use earnings statements, pay stubs, or other employer records to calculate the overtime premium yourself.⁸

Which Overtime Pay Qualifies for the Deduction

Not all overtime pay qualifies. The deduction covers only overtime your employer is required to pay under the federal Fair Labor Standards Act. FLSA-required overtime kicks in when a non-exempt employee works more than 40 hours in a workweek, at a rate of at least one-and-a-half times their regular pay.⁹

If your employer voluntarily pays a premium beyond what the FLSA requires, only the FLSA-mandated portion counts. For example, if your employer pays double-time for holiday shifts but the FLSA only requires time-and-a-half, the deductible amount is limited to the half-time premium the FLSA mandates.⁸ Overtime pay required only by state law, and not by the FLSA, does not qualify at all.

Workers classified as exempt under the FLSA cannot claim the deduction, even if their employer pays them extra for long hours. The main exemptions apply to employees in executive, administrative, or professional roles paid on a salary basis. The current salary threshold for these exemptions is $684 per week ($35,568 annually), based on a 2019 rule that remains in effect after courts blocked a scheduled increase.¹⁰ Meeting the salary threshold alone does not make someone exempt; the job must also involve duties like managing a department or exercising independent judgment on significant business decisions.¹¹

State and Local Taxes on Overtime

The new federal deduction does not affect state taxes. Most states with an income tax treat overtime exactly like regular wages. In states with a flat income tax, every overtime dollar is taxed at the same rate as your base pay, so the withholding distortions common at the federal level are less noticeable. In states with graduated brackets, overtime can bump a paycheck into a higher state withholding bracket for the same mechanical reasons described above.

Some states set a separate flat withholding rate for supplemental wages like overtime. These state supplemental rates range roughly from 1.5% to over 11%. A handful of states have no income tax at all, in which case overtime only faces federal and FICA withholding. Certain cities and counties also impose local income or payroll taxes on all earned income, including overtime.

Reconciling Overtime Taxes When You File

Everything settles on your Form 1040. The withholding pulled from each paycheck during the year is an advance payment toward your final tax bill. Once you add up all your wages, including overtime, you apply your actual tax brackets, deductions, and credits to find what you truly owe. If your employer over-withheld during heavy overtime weeks, you get the difference back as a refund.

If your overtime hours fluctuate, the IRS Tax Withholding Estimator can help you fine-tune your W-4 so your withholding matches your actual liability more closely.¹² Running the estimator at the start of the year and again after any major income change helps you avoid both a surprise tax bill and an unnecessarily large refund. If you regularly work overtime and receive large refunds every spring, that is a sign your withholding is set too high, and adjusting your W-4 can put more money in your pocket during the year.¹³

If your W-2 reports incorrect overtime amounts, ask your employer for a corrected form. If your employer does not issue one by the end of February, contact the IRS at 800-829-1040, and you can file using Form 4852 as a substitute.¹⁴

1
Office of the Law Revision Counsel. 26 USC 3401 – Definitions
2
Social Security Administration. What Is the Current Maximum Amount of Taxable Earnings
3
Internal Revenue Service. Publication 15 (2026), (Circular E), Employer’s Tax Guide – Section: 7. Supplemental Wages
4
Internal Revenue Service. Publication 15-T (2026), Federal Income Tax Withholding Methods
5
Office of the Law Revision Counsel. 26 USC 225 – Qualified Overtime Compensation
6
Internal Revenue Service. Questions and Answers About the New Deduction for Qualified Overtime Compensation
7
Internal Revenue Service. One, Big, Beautiful Bill – How to Take Advantage of No Tax on Tips and Overtime
8
IRS.gov. Guidance for Individual Taxpayers Who Received Qualified Tips or Qualified Overtime Compensation in 2025
9
U.S. Department of Labor. Overtime Pay
10
U.S. Department of Labor. Earnings Thresholds for the Executive, Administrative, and Professional Exemption
11
U.S. Department of Labor. Fact Sheet 17A – Exemption for Executive, Administrative, Professional, Computer and Outside Sales Employees Under the FLSA
12
Internal Revenue Service. Tax Withholding Estimator
13
Internal Revenue Service. About Form W-4, Employee’s Withholding Certificate
14
Internal Revenue Service. If You Don’t Get a W-2 or Your W-2 Is Wrong