Key Employment and Tax Changes Under the One Big Beautiful Bill Act

The One Big Beautiful Bill Act (OBBBA), signed into law as Public Law 119-21 on July 4, 2025, introduces significant changes to employment and tax law that will affect both employers and employees. While the legislation aims to provide financial relief to workers, it also creates new compliance challenges for employers. Employers should begin planning to avoid complications during tax season and beyond.

Overtime Deduction Available to Employees

Under the OBBA, employees may deduct the overtime premium, which is the additional half-time pay for overtime hours worked, from their taxable income when preparing their personal tax returns. This deduction is capped at the standard deduction amount (for tax year 2025, $15,750 for single or married filing separately) and applies only to overtime required under the Fair Labor Standards Act. As a result, any overtime that was agreed to by contract or past practice would not qualify for the deduction. In addition, the ability to deduct begins to phase out for employees whose gross wages exceed $150,000.

For tax year 2025, employers were permitted to provide a reasonable estimate of qualified overtime because those W-2 forms did not provide employers the ability to separately account for this amount. Beginning in 2026, payroll systems need to track and report the extra half of qualifying overtime pay as a distinct figure. Unionized employees may face additional challenges, since many collective bargaining agreements provide overtime as a lump sum, which will require a detailed review of pay periods to calculate the correct amount.

Employers were expected to document the estimation methods used for tax year 2025. Moving forward, employers should work with payroll providers to ensure compliance with the 2026 reporting requirement. IRS Notice 2025-69 provides guidance for taxpayers and employers on these deductions.

Tip Income Deduction

The OBBBA allows tipped employees to deduct up to $25,000 in tips from their taxable income, subject to an income-based phase-out. Qualifying tips include voluntary payments made in cash or by card, while mandatory service charges do not qualify.

For 2025, employers were not required to report tips separately on W-2 forms, but this becomes mandatory in 2026. The IRS has issued proposed regulations listing occupations that customarily receive tips and defining what qualifies as deductible tips. Businesses in hospitality and food service should begin updating payroll systems and educating employees on these changes to ensure compliance.

Further details are available in IRS Guidance on OBBB provisions.

Highly Compensated Employees and Nonprofits

Under the OBBBA, tax-exempt organizations remain subject to an excise tax equal to the corporate tax rate of 21 percent on remuneration paid to certain employees in excess of $1 million, as well as on excess parachute payments. Historically, this tax applied to the five highest-compensated employees and anyone who had previously been classified as a covered employee in a taxable year beginning after 2017, meaning once an individual became covered, they remained covered in future years.

The OBBBA significantly expands this rule by broadening the definition of covered employees to include all employees and former employees. This change greatly increases the number of individuals subject to the excise tax and could have substantial financial implications for nonprofit organizations. The provision takes effect for tax years beginning after December 31, 2025. Nonprofit organizations should review executive compensation structures and severance agreements now to prepare for compliance and mitigate potential exposure.

A summary of this provision can be found in the Congressional Research Service analysis.

Employer Credit for Paid Leave

The OBBBA expands the employer credit for wages paid during periods of FMLA leave or for insurance premiums covering such leave. The credit now includes employees with at least six months of service, making the credit more accessible to a broader range of employers.

Employers should evaluate their leave policies to maximize this benefit and ensure compliance with reporting requirements. This provision aligns with the broader goal of supporting family leave while reducing employer costs.

Conclusion

The OBBBA offers tax advantages for employees and incentives for employers, but it also introduces new administrative burdens with limited guidance on how employers can comply. Early planning is essential. Employers should update payroll systems, review union contracts, coordinate with third-party vendors such as payroll processors, and communicate changes to employees well before the next tax season. Our firm is monitoring IRS guidance and will provide updates as regulations evolve. For questions about compliance or strategic planning under the OBBBA, contact our office for assistance.