New Federal Deductions for Qualified Overtime and Qualified Tips – How ADP Will Support You for Tax Years 2026 to 2028

Feb 26 2026 17:38

As we previously reported, H.R.1, the One Big Beautiful Bill Act (the Act), was signed intolaw on July 4, 2025. The Act includes a federal income tax deduction for qualifiedovertime and qualified tips, effective for tax years 2025 through 2028.

For tax years 2026 through 2028, employers and payors are expected to report qualifiedovertime and qualified tip amounts on year-end informational tax returns. While overtimeand tip information will be accumulated throughout the year, this is an annual requirementto report qualified amounts to your employees.

Below we provide an overview of these provisions and information on how ADP productsare being updated to help support you.

Qualified Overtime

Beginning with tax year 2026, employers willneed to track and report qualified overtimepremium on Form W-2.

"Qualified overtime" compensation meansovertime required to be paid under Section 7 ofthe Fair Labor Standards Act (FLSA). Overtimenot required by the FLSA (such as potentiallymore generous overtime required under statelaws, a collective bargaining agreement or paidvoluntarily by employers) is therefore noteligible for the deduction. In addition, only thepremium portion of overtime may be eligible forthe deduction. For example, if an individual ispaid $10 per hour for non-overtime earnings,and $15 per hour for overtime, only the $5 perhour premium pay for  overtime is eligible forthe new tax deduction. 

What this Means to You

•  For payrolls processed with a checkdate of 1/1/26 or later, hours reportedin the existing overtime or double timeearnings codes will be used to calculatethe premium portion of qualifiedovertime compensation. This amountwill be accumulated throughout theyear and reported in box 12 on theemployee's W-2. Employees will then beable to use this amount on their yearend tax returns to claim any availablequalified overtime deduction.
• Overtime and double time hours that donot qualify will need to be reported inthe new corresponding "NQ" (nonqualified) overtime and double timeearnings codes. These amounts will notbe reported in box 12 of the employee’sForm W-2.
• For clients with ADP Time Keeping andTime Labor Management solutions, wewill automatically classify yourovertime and double time as qualifiedand non-qualified overtime for yourweekly and bi-weekly payroll.
• A new payroll report, QualifiedOvertime Compensation Summary, willbe available for qualifiedovertime/double time earnings perpayroll to show the qualified premiumportion of these earnings that will printon the employee's W-2 and may qualifyfor the tax deduction as outlined in theOne Big Beautiful Bill Act.

Qualified tips

Beginning with tax year 2026, employers andpayors will need to track and report qualifiedtips on Forms W-2 and 1099 series.

"Qualified tips" means cashtips voluntarily provided to an individual in anoccupation which customarily and regularlyreceived tips on or before December 31,2024. "Cash tips" for purposes of the Actinclude tips received from customers that arepaid in cash or charged, and, in the case of anemployee, tips received under any tip-sharingarrangement.

Additionally, employers and payors will need toreport an employee’s/payee’s Treasury TippedOccupation Code (TTOC) on the Forms W-2 and1099 series. TTOC is an employee/payeelevel three-digit number provided by theDepartment of the Treasury which signifiesthat the individual works in an occupation thatcustomarily andregularly received tips. Review the list ofTTOC indicators here.

Employers and payors will also needto indicate whether they are a specific servicetrade or business (SSTB) on Forms W-2 and1099.

Workers in SSTBs are not eligible for thetips deduction and any tip income earned by theworker in an SSTB is deemed unqualified forpurposes of claiming the deduction under theAct.SSTBs include, for example, those providingservices in accounting, health, law, actuarialscience, athletics, brokerage services,consulting, financial services or the performingarts. We expect additional guidance on SSTBsin 2026.

What this Means to You

• For payrolls processed with a checkdate of 1/1/26 or later, tip amountsreported in the existing tip earningscodes, which may qualify for the taxdeduction as outlined in the One BigBeautiful Bill Act, will be reported inbox 12 on the employee's W-2.
• Tips that do not qualify as “qualifiedtips” as outlined in the One BigBeautiful Bill, will need to be reportedin the new corresponding "NQ" (nonqualified) tip earnings codes. Ex.Service charges or mandatorygratuities.
• For tipped employees, employers willneed to select a Treasury TippedOccupation Code (TTOC) for eachemployee that works in an occupationthat customarily and regularly receivesqualified tips that may qualify for thetax deduction as outlined in the One BigBeautiful Bill.
• This selection is made bynavigating to people>selectperson's name>Payroll info andupdate the person's tipinformation. These selectionscan be made prior to your firstpayroll in 2026.
• If qualified tips are reported foran employee that does not havea TTOC selected on theemployee's payroll info page,you will receive a message tomake a TTOC selection or movethe qualified tips to nonqualified. TTOC codes will printin Box 14b on the employee'sW-2.

Impacts to Withholding

The Act did not specifically state that qualified overtime and cash tip amounts would beexcluded from withholding. Therefore, all qualified overtime and qualified tipamounts remain subject to withholding.

The IRS recently released draft Form W-4 for tax year 2026 in which it includedthe option for employees to reduce their withholding based on expected qualified overtimeand qualified tip deductions. Employees interested in reducing their withholding wouldneed to utilize the Deductions Worksheet for Line 4(b) of the form to calculate theirreduced withholding amount. Please note that the 2026 Form W-4 is still indraft. Therefore, this option will not be available to employees until the IRS finalizes the form. Once the IRS issues the final Form W-4, we will update our systems accordingly.