At a Glance
The IRS has issued Notice 2025-69, giving employees clear instructions on how to calculate their 2025 deductions for qualified tips and qualified overtime compensation even though employers will not separately report these amounts until 2026. For this transition year, employees may rely on existing documents—such as Form W-2 boxes 7 and 14, Forms 4070, Form 4137, pay stubs, and other supporting records—to determine deductible amounts. The IRS has also postponed enforcing the rule that tips must not come from a specified service trade or business, allowing workers in any tip-earning occupation recognized before 2025 to qualify. For overtime, the Notice outlines several reasonable calculation methods based on how employers report pay. These deductions remain subject to income thresholds, joint-filing requirements, and the need for accurate documentation, but the guidance ensures employees can still take advantage of the new benefits in 2025.
Contents
- A Temporary Bridge Year for Employees
- Calculating the Qualified Tips Deduction
- Calculating the Qualified Overtime Deduction
- Practical Considerations for 2025 Returns
- Looking Ahead
In November, the IRS issued Notice 2025-62, which gave employers penalty relief during the transition year for the new “no tax on tips and overtime” rules under the One Big Beautiful Bill Act (OBBBA). The IRS has now taken the next step. In Notice 2025-69, the agency released instructions for employees on how to calculate their own deductions for qualified tips and qualified overtime compensation on 2025 individual income tax returns—even though employers may not provide separate reporting this year.
This follow-up guidance is important because it ensures eligible workers can still benefit from the new deductions while the reporting system catches up.
A Temporary Bridge Year for Employees
OBBBA allows two new deductions beginning in 2025:
- Up to $25,000 of qualified tips, and
- Up to $12,500 of qualified overtime compensation (or $25,000 on a joint return).
Because 2025 Forms W-2 and 1099 may not include the new reporting fields, the IRS is letting employees use existing documents—plus their own records—to determine deductible amounts. The agency also delayed enforcement of the rule requiring employees to show their employer is not a specified service trade or business. For 2025, anyone working in an occupation that regularly received tips before 2025 may treat their tips as eligible.
Calculating the Qualified Tips Deduction
For 2025, employees can use several options to determine the amount of their deductible tips. Individuals may rely on whichever of the following applies:
- Social Security tips reported in box 7 of Form W-2
- Tips reported to the employer on monthly Forms 4070 (or similar internal reporting)
- Any amount voluntarily listed by the employer in box 14 of Form W-2, or on a separate statement
- Additional tips reported on Form 4137, included as income on the return
Employees may choose the method that yields the most complete total and may add Form 4137 amounts to any other option.
Individuals who receive tips as independent contractors may rely on earnings summaries, POS system reports, third-party payment records, daily logs, or other documentation showing total tips received.
Importantly, the deduction cannot exceed the amount actually reported as income on the W-2 or 1099.
Calculating the Qualified Overtime Deduction
The overtime deduction is available only for overtime required to be paid under federal labor law—meaning the employee must be covered by the Fair Labor Standards Act (FLSA) and not exempt. If unsure, the IRS suggests employees check with their employer.
Because 2025 W-2s will not itemize qualified overtime, employees must use pay stubs or similar records and apply one of several “reasonable methods,” depending on how the employer reports overtime. Common examples include:
- Using the premium portion of overtime if separately listed
- If overtime is shown as a combined amount, treating one-third of that amount as deductible
- For double-time structures, using one-half or one-fourth of reported totals
- When needed, approximating regular rate and hours over 40 using available payroll information
Employees with multiple employers may use different methods for each.
Practical Considerations for 2025 Returns
Although the new deductions are valuable, they include several limitations:
- Both deductions phase out beginning at $150,000 of modified AGI ($300,000 for joint filers).
- Married individuals must file jointly to claim either deduction.
- Employees must maintain adequate documentation to support the calculation.
This first year may require more involvement from employees, but the IRS has provided enough flexibility to make the deductions accessible.
Looking Ahead
Beginning with the 2026 reporting year (forms issued in early 2027), employers will be required to provide the necessary breakdowns on Forms W-2 and 1099. At that point, employee calculations should be more straightforward.
For now, Notice 2025-69 offers the tools employees need to capture these deductions accurately for 2025. Those who regularly receive tips or work overtime may benefit from gathering their documents early and understanding which methods best apply to their situation.
John Hadwen is a Principal at ARB. He specializes in providing individuals and businesses with comprehensive
tax compliance and consulting services related to closely-held business, manufacturing, construction & real estate, and professional services firm taxation. Prior to joining ARB, John was a Tax Principal at a large, regional CPA firm.
