Tax Cuts Leave Open Recordkeeping Questions for Employers
The recently enacted “One Big Beautiful Bill Act” introduces significant changes to the federal tax code, affecting green energy, estate planning, employment taxes, and more. The “No Tax on Tips” and “No Tax on Overtime” provisions offer significant deductions for eligible employees. However, there are still questions open on how the IRS will administer these programs—and on how employers will be required to help with recordkeeping.
Summary of Tax Benefits for Employees
Employees may have questions regarding how these changes impact their compensation. Below is a summary for employers, but the IRS will issue detailed guidance on these benefits later this year. Employers should direct employee questions to the most recent IRS guidance.
“No Tax on Tips” – Up to $25,000 Deduction
From 2025 through 2028, eligible employees and self-employed individuals can deduct qualifying tip income from their taxable income. Key eligibility requirements include:
- The occupation must be on the IRS ’s list of eligible occupations that “customarily and regularly” receive tips. The IRS has announced a preliminary list, which is currently visible at this link. The list is pretty broad, covering occupations from restaurant wait staff to tattoo artists.
- Tips must be voluntary cash or charged tips, with certain tip pools allowed.
- The deduction phases out for single filers with an annual income starting at $150,000.
- Employers must report tips, with IRS guidelines forthcoming.
“No Tax on Overtime” – Up to $12,500 Deduction ($25,000 for Joint Filers)
Similarly, from 2025 through 2028, eligible employees can deduct qualifying overtime payments. Key eligibility requirements include:
- Only federally-mandated overtime compensation is expected to be eligible, but more details are to be provided by the IRS
- The deduction applies only to the overtime portion of the compensation (meaning that, for “time and a half” overtime, only the extra “half” is eligible).
- Social Security and Medicare taxes will still apply to all applicable income.
- The deduction phases out for single filers with an annual income starting at $150,000.
- Employers must report qualifying overtime, likely as part of the W-2 form, but details are forthcoming.
New Reporting Obligations for Employers
Employers are likely to face new reporting obligations under these tax deductions. For the “No Tax on Tips” deduction, employers are expected to file information returns with the IRS and furnish reports to employees detailing cash tips received and the recipient’s occupation. The IRS will provide the necessary reporting forms, but employers should anticipate additional tracking and reporting burdens as part of the annual W-2 process.
For the “No Tax on Overtime” deduction, HR professionals must carefully review the types of overtime paid and determine eligibility for the deduction. If the deduction applies only to FLSA-mandated overtime, companies with more generous overtime policies must exercise caution to avoid overreporting eligible overtime. This is particularly relevant in states like California, where special overtime requirements exist.
Practical Considerations
Employers considering changes to compensation structures to leverage these tax incentives should proceed with caution. Changes to tip-related compensation, such as revamping tip pools or increasing reliance on tips instead of hourly pay, should be made in consultation with accounting, payroll, and tax experts. The IRS will provide further guidance on eligible occupations, and premature changes could result in unnecessary costs without accessing any tax benefits. Additionally, regulations regarding tip compensation are complex, necessitating consultation with HR and legal professionals.
Some additional challenges may arise for employers if the list of eligible occupations for the “no tax on tips” benefit does not align with the Department of Labor’s historical application of a similar standard for tip credit-eligible occupations under federal minimum wage laws. Some commentators, including law firms like Littler Mendelson, have noted that the preliminary list of occupations does not align with historical Department of Labor interpretations of federal minimum wage laws for tipped employees. [1]
Similarly, changes to overtime policies should be carefully evaluated. The Act refers to FLSA-mandated overtime, which qualifies for the deduction, so expanding overtime policies may not yield additional benefits. We expect more clarification from the IRS in the coming months on eligible overtime and recordkeeping expectations. In the meantime, significant changes to employee compensation should be reviewed thoroughly.
Conclusion
The One Big Beautiful Bill Act presents new opportunities and challenges for employers, but important details are still in flux. Stay informed with the latest IRS guidance to ensure compliance and maximize the benefits of this legislation. Should you have additional questions or need advice on how to proceed, contact our experienced Labor & Employment group members to answer any questions you may have.
[1] https://www.littler.com/news-analysis/asap/treasury-department-releases-preliminary-list-no-tax-tips-occupations