New Federal Overtime Tax Deduction for Employees
Effective as of January 1, 2025
The One Big Beautiful Bill Act (OBBBA) introduces a significant new federal income-tax benefit for many hourly employees by allowing a deduction for qualifying overtime pay. This provision is intended to reduce the federal tax burden on workers who regularly earn overtime wages and is especially relevant for industries with extended shifts and variable schedules, including public safety and emergency services.
What the New Deduction Does
For wages earned during the period of January 1, 2025 through December 31, 2028 (unless extended), eligible employees may deduct certain overtime compensation from their federal taxable income when filing their annual tax return. This deduction is claimed by the employee on their individual tax return.
In general, the deduction applies only to the premium portion of the overtime – the “half” of the “time and a half amount” of the overtime payment under the Fair Labor Standards Act (FLSA). All overtime earnings - as with non-overtime earnings - are still subject to all standard withholdings for federal income taxes, Medicare, social security, etc.
The benefit to the employee comes when the employee reduces their taxable income by deducting the eligible overtime amounts from their federal income taxes when filing their income tax return the following year. For those who work a lot of overtime, this amount can be substantial. A simple calculator of the impact the deduction may have has been posted by the administration and can be found HERE.
Annual Deduction Limits
- Single filers: Up to $12,500 per year
- Married filing jointly: Up to $25,000 per year
Income Phase-Out Rules
The deduction begins to phase out at higher income levels (approximately $150,000 for single filers and $300,000 for married couples filing jointly). Employees above these thresholds may receive a reduced deduction ($100 for each $1,000 by which employee’s gross income exceeds these thresholds) or no deduction.
What Wages Qualify
To be eligible, overtime wages generally must be:
- Paid to a W-2 employee (not a 1099 contractor)
- Includes all hourly employees subject to FLSA overtime rules, not just EMS clinicians
- Earned as overtime required under federal labor law, meaning overtime that must be paid under the FLSA for hours worked beyond the federal threshold; additional overtime paid solely due to state law requirements, collective bargaining agreements, or voluntary premium pay arrangements (such as “double time”) typically does not qualify for the deduction.
- Properly tracked and supported through payroll records
What This Deduction Does NOT Do
- Applies only to federal income tax, and does not apply to any state or local income tax
- Does not eliminate Social Security/Medicare (FICA) taxes
- Does not change overtime eligibility rules or FLSA overtime calculations
- Does not automatically reduce withholding unless payroll/IRS guidance later permits changes
Employer Reporting and Documentation
This change does not alter payroll overtime calculations or withholding practices, as employers will still calculate overtime the same way and continue withholding applicable taxes from each paycheck. Instead, the benefit is realized later, because the deduction reduces an employee’s taxable income when the employee files their federal income tax return. As such, employers are expected to separately track and report overtime wages.
In November 2025, the IRS issued Guidance for Individual Taxpayers who received Qualified Tips or Qualified Overtime Compensation in 2025, acknowledging that reporting systems are still evolving and providing transitional rules for the first year of implementation. For 2025 wages reported on Forms W-2 issued in January 2026, employers may, but generally are not required to, separately report qualified overtime on the W-2 and may instead provide the required detail through an online portal, written statement, or similar secure communication. Employees should retain year end pay stubs and payroll summaries as the deduction is limited to qualified overtime compensation only.
Practical Pointers
For EMS agencies, overtime is a constant operational reality. This new deduction may increase employee interest in overtime, which creates both opportunities and operational considerations for agency leadership:
- Expect increased demand for overtime shifts. Because the deduction reduces federal income tax on qualifying overtime pay, some clinicians may view overtime as more financially attractive. Agencies should anticipate heightened competition for available overtime shifts.
- Be mindful of staffing, fatigue, and burnout. While overtime can help address short-term staffing gaps, increased reliance on the same employees may exacerbate fatigue, burnout, and patient-safety risks. Agencies should continue to enforce existing fatigue management, maximum-hour, and rest-period policies, even if employees are eager to work additional shifts.
- Review overtime distribution practices for fairness and consistency. Agencies may want to revisit how overtime is offered and assigned (such as rotating lists, seniority-based systems, or voluntary sign-up processes) to ensure overtime opportunities are distributed fairly and transparently and do not disproportionately burden or favor certain staff members.
- Coordinate payroll tracking. EMS payroll structures often involve blended rates, built-in overtime, and differentials. Agencies should work with payroll vendors to ensure the overtime premium portion of pay is clearly identifiable and accurately reported for tax purposes.
- Overtime Documentation and Employee Communication. Plan now for qualifying overtime documentation and employee communications. Employers should determine how qualifying overtime will be identified and communicated to employees, particularly if it is not reported on the W-2 for 2025. Regardless of deductibility, all overtime compensation remains subject to Social Security and Medicare taxes.
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Avoid providing tax advice. Agencies should focus on accurate payroll reporting and clear communications, while encouraging employees to consult a tax professional regarding their personal eligibility and filing strategy.
Additional Workforce, Payroll, and Employee Benefit Changes Relevant to EMS Agencies
OBBBA also includes a wide range of other miscellaneous workforce, payroll, and benefit‑related changes with some effective immediately and many taking effect after 2025. Because these provisions touch payroll reporting, benefit eligibility, and employer tax credits, EMS agencies should use the remaining runway in 2025 to review plan documents, confirm vendor and municipal system readiness, and update employee communications so these changes can be implemented smoothly and consistently across the organization. Here are the top 5 five items to have on your radar heading into 2026:
Expanded Dependent Care and Child‑Care Incentives
What Changed:
Beginning in tax year 2026, the OBBBA increases the annual employee contribution limit for Dependent Care Flexible Spending Accounts (FSAs) from $5,000 to $7,500 (and from $2,500 to $3,750 for married individuals filing separately).
The Act also substantially expands the Employer‑Provided Child‑Care Credit, increasing the credit to 40% of qualified expenses and raising the annual cap to $500,000 (or $600,000 for qualifying small businesses).
Effective Dates:
Dependent Care FSA limit increase: Tax years beginning after December 31, 2025.
Expanded child‑care credit: Tax years beginning after December 31, 2025.
And, unlike the overtime tax deduction, the Dependent Care FSA limit increase and the expanded child-care credits do not have an expiration date!
Practical Pointers:
Dependent care benefits are particularly valuable for shift‑based EMS personnel with non‑traditional work hours, and agencies may want to highlight the higher FSA limits during open enrollment. Higher limits may increase employee participation and contribution amounts, especially among working parents. Employers should confirm cafeteria plan documents and open enrollment materials reflect the new limits, and payroll teams should confirm systems can administer the higher election amounts beginning with the applicable plan year.
Paid Family and Medical Leave Credit Made Permanent
What Changed:
The OBBBA makes the federal Paid Family and Medical Leave (PFML) employer tax credit permanent, eliminating the prior sunset. Employers may generally claim a credit ranging from 12.5% to 25% of qualifying wages paid during leave. Beginning in 2026, employers may elect an alternative method of calculating the credit based on insurance premiums instead of wages.
Any employer that provides qualifying paid family and medical leave may be eligible, regardless of size. To qualify, an employer must maintain a written PFML policy providing at least two weeks of paid leave at 50% or more of wages. The credit generally applies to employees who have been employed for a minimum period of 1 year (or 6 months at employer’s election), work at least 20 hours per week, and do not exceed the compensation threshold.
Effective Dates:
Permanent extension: Applies after December 31, 2025.
Alternative premium‑based calculation method: Tax years beginning in 2026.
Practical Pointers:
For smaller EMS agencies that struggle to absorb the cost of paid leave, the permanent credit may make it more feasible to formalize paid‑leave policies while still offsetting costs.
Agencies should keep in mind that written policies are required, and policies should be reviewed to confirm they meet statutory requirements before leadership relies on the credit. Additionally, employers should coordinate with tax advisors to determine which credit calculation method is more favorable.
Employer‑Provided Student Loan Repayment Benefits
What Changed:
Employer contributions toward an employee’s student loan repayment are now permanently excluded from taxable income under IRC §127. Employers may continue to provide up to $5,250 per year in tax‑free education assistance, with inflation indexing beginning in 2026.
Effective Dates:
Permanent: Applies after December 31, 2025.
Inflation indexing: Begins in 2026.
Practical Pointers:
Student loan assistance can be a meaningful recruitment and retention tool for EMTs, paramedics, and nurses carrying education debt. Even modest monthly contributions can improve retention, especially in rural areas or other markets where staffing remains tight.
Health Savings Account (HSA) and Telehealth Flexibility
What Changed:
The OBBBA permanently allows first‑dollar telehealth coverage under HSA‑compatible high‑deductible health plans (HDHPs). Beginning in 2026, HSAs may also be used to pay for qualifying Direct Primary Care (DPC) arrangements without disqualifying HSA eligibility. HSA funds may be used for Direct Primary Care up to $150 per month for individual coverage and $300 per month for family coverage. In addition, employees enrolled in certain Bronze or Catastrophic health plans may now qualify to contribute to HSAs.
Effective Dates:
Telehealth first‑dollar coverage: Plan years beginning in 2025 and beyond.
Direct Primary Care and Bronze/Catastrophic plan expansion: Beginning January 1, 2026.
These are also permanent changes with no expiration date.
Practical Pointers:
Telehealth flexibility can be especially helpful for certain shift employees who may have difficulty accessing traditional office‑hour care. EMS employers offering high‑deductible plans should confirm whether plan designs remain HSA‑compatible under the new rules, whether vendor systems can administer the new options, and whether employee communications should be refreshed ahead of open enrollment.
Relaxed Information Reporting for Certain 1099 Payments
What Changed:
The OBBBA increases the reporting threshold for Forms 1099-K, 1099‑NEC, and 1099‑MISC from $600 to $2,000, with inflation indexing beginning in 2027. This change does not affect W‑2 reporting.
Effective Dates:
Higher 1099 threshold: Applies to payments made after December 31, 2025. This change is also permanent.
Practical Pointers:
EMS agencies frequently make payments to an array of vendors and service providers which can trigger 1099 reporting obligations. Even with the higher threshold, agencies should maintain consistent documentation and classification practices, including W‑9 collection and controlled payment workflows. Agencies should also coordinate with municipal finance offices or payroll vendors to ensure vendor‑payment workflows and tracking are updated for 2026.
Summary
There are positive aspects of the OBBBA that can benefit both EMS employers and employees, especially the new deduction for certain overtime payments that can directly reduce an employee’s taxable income. This new benefit can significantly benefit employees who work substantial amounts of overtime, which is often the case with EMS agencies.
The professional team at PWW|AG can help if you have specific questions on how these changes may impact your organization. Reach out to the consultant with whom you normally work, or contact us at contact@pwwag.com.
