The "No Tax on Overtime" Headache: Why Your Client’s W-2 Might Be Wrong

We are finally in the thick of it. February is here, and the "One Big Beautiful Bill" is officially impacting the returns crossing our desks.

We all heard the headlines last year about "No Tax on Overtime." Clients cheered, and honestly, it sounded great. It felt like a win for the hardworking people we serve every day. But as tax pros, we know that nothing in the tax code is ever quite as simple as the headlines make it seem.

Now that W-2s are arriving, I am seeing a lot of confusion. It is not just coming from clients. Payroll departments are struggling too. If you are staring at a return that does not look quite right, please know that you are not crazy. The new rules for exempting overtime pay are tricky. Let’s break down the biggest trap we are seeing this season so you can help your clients and save your sanity.

The "All Overtime" Misconception

We need to talk about the biggest myth out there right now. Most people believe that all hours worked over 40 are tax-free.

Your client might think that if they worked 50 hours, that extra 10 hours of pay is completely tax-free. But under the new law, the exemption relies heavily on the Fair Labor Standards Act definition of "premium pay."

The IRS guidance is specific. The "qualified" part is the part that is actually tax-free. This is often just the premium portion of the pay. It is not always the base pay associated with those hours. It really depends on how their employer structures it.

Think about a client who makes $20 an hour. Their overtime rate is $30.

• The Client Thinks: The full $30 is tax-free.

• The Reality: We have to check the specific "premium" calculation codes in the new legislation. If the employer merely coded it as "extra hours" rather than mandated overtime, the deduction might be disallowed.

The W-2 Box 14 Problem

Payroll companies are scrambling just as much as we are. You need to look closely at Box 14 or the new dedicated Box 12 code if they used it.

I have seen three W-2s this week where the employer lumped all variable pay into the "Overtime" category. This included bonuses and shift differentials.

If we just take that number and plug it into our software, we are going to trigger an audit. The IRS computers are matching these numbers against hourly rates and standard work weeks. If the math implies the client worked 80 hours of "overtime" a week, the system will flag it.

Pro Tip: Ask your client for their final paystub of 2025. Compare the "YTD Overtime" line on the stub to the amount on the W-2. If they do not match, do not file that return yet.

Handling the "Salary" Surprise

This is likely the hardest conversation you will have this week. You will have salaried clients who worked 60-hour weeks coming in expecting a huge refund.

Under the current reading of the bill, most salaried exempt employees do not qualify for the overtime exemption. This is because they do not receive "premium pay" for those extra hours. They just worked more for the same check.

Be prepared to explain this gently. I like to tell clients that the law rewards the pay structure, not just the hard work. Since their pay structure is a fixed salary, the bill simply doesn't trigger a deduction for them.

What We Can Do as Advisors

This is our time to shine. We aren't just data entry clerks. We are the experts.

• Verify the Code: Do not trust the import. Double-check the overtime amount against paystubs.

• Set Expectations: Before you even send the draft return, call the client if their "tax-free" amount is lower than they expected. Explain the "premium pay" rule.

• Check State Law: Remember that just because the Feds exempted it doesn't mean your state did. Don't let a state tax bill surprise them later.

We are all learning these new forms together. Take a breath, double-check your inputs, and remember that you are the best advocate your client has.

Join the Conversation

Are you seeing messy W-2s this season? How are you handling the overtime conversation?

If you want to dive deeper into these new tax laws and get real-time support from a community of peers who truly get it, I would love to invite you to the Nadia CPA Inner Circle. We are breaking down the "One Big Beautiful Bill" week by week, sharing templates, and helping each other grow.