IRS Issues New Rules on Overtime Tax Deduction

The IRS issued new guidance in September 2026 clarifying how the overtime tax deduction works, resolving questions that had left employers and workers uncertain about how to apply the benefit.

The updated rules specify that only the premium portion of time-and-a-half pay is eligible for the tax deduction. For a worker earning 20 dollars per hour, the regular rate is 20 dollars and the overtime rate is 30 dollars. Only the 10-dollar premium, not the full 30-dollar rate, qualifies for the deduction.

Employers are now required to report qualified overtime pay separately on W-2 and 1099 forms. This reporting requirement is designed to make it easier for workers to claim the deduction accurately when filing their taxes.

The guidance affects millions of hourly workers who received overtime pay during 2026. Workers who were paid overtime but did not understand the deduction rules may have left money on the table in prior filings.

Tax professionals say the clarification is welcome but note that the premium-only rule is more restrictive than some workers had hoped. Some had expected the full overtime rate to qualify, which would have produced a larger tax benefit.

The IRS guidance also addresses situations where workers receive shift differentials or other pay supplements alongside overtime, providing specific rules for how those amounts should be treated.

Workers with questions about how the deduction applies to their specific situation are encouraged to consult a tax professional or use the IRS's updated online resources.