OB3 Act: No Tax on Tips, Overtime, or Social Security
The tips deduction will increase complexity for self-employed taxpayers
The House of Representatives passed the One Big Beautiful Bill Act on July 3, 2025, and sent it to President Trump for signature. This is the first in a series of articles on tax provisions in the One Big Beautiful Bill Act over the next month.
I am doing a two-hour webinar for Compass Tax Educators on the provisions affecting tax year 2025 (there are many!) on July 11, 2025, at 2:00 pm ET / 11:00 am PT.
The One Big Beautiful Bill Act (OB3 Act) includes three new deductions that attempt to fulfill President Trump’s campaign promises of no tax on tips, overtime, or Social Security. While these deductions may fall short of their stated goals, they provide material, time-limited tax relief to specific population segments.
No Tax on Tips
The OB3 Act introduces a temporary below-the-line deduction for cash tips with the enactment of new §224, created by §70201 of the law. Beginning in tax year 2025 and sunsetting after 2028, individuals may deduct up to $25,000 annually (regardless of filing status) in qualified tips received in customary tipping occupations.
This deduction reduces taxable income but does not reduce AGI, and it is not an itemized deduction. The provision applies only to cash tips — whether received directly, charged on a credit card, or through tip-sharing — that are voluntarily paid, not negotiated, and not required by policy.
As a reminder, tip income must still meet tax law criteria for treatment as a tip rather than a service charge, and the employer’s self-classification is not determinative. Rev. Rul. 2012-18, citing Rev. Rul. 59-252, looks to voluntary payment, unrestricted amount, absence of negotiation, and discretion in recipient selection.
Tips from §199A specified service trades or businesses, including employee compensation arising from SSTBs, are excluded.
To qualify, tips must be reported on one of the following forms:
Form W-2
Form 1099-K
Form 1099-NEC
Or self-reported on Form 4137
The information return must include the occupation and the portion of payments reasonably designated as tips. The IRS is authorized to issue further guidance on reasonable estimation methods for pre-2026 reporting.
For self-employed individuals, the deduction is limited to the net income from the relevant trade or business. For example, a taxpayer with $4,320 in net sole proprietorship income and $7,810 in qualified tips from that trade or business can only deduct $4,320 in qualified tips.
The individual’s tips deduction is reduced by $100 for every $1,000 of MAGI over $150,000 ($300,000 on a joint return), but never below zero. MAGI includes income excluded under §911, §931, and §933. Fractional overages do not trigger a reduction. The tips deduction reduces §199A qualified business income if the tips are from a §199A qualifying trade or business.
A valid Social Security number (SSN) issued before the return due date (including extensions) is required. The absence of an SSN is treated as a math error, allowing IRS adjustment without a notice of deficiency. If married, taxpayers must file jointly unless they are considered unmarried under §7703.
§70201(e) of the OB3 Act also expands the §45B FICA tip credit to include beauty service industries (e.g., hair care, nail services, spa treatments).
No Tax on Overtime
The OB3 Act introduces a temporary below-the-line deduction for overtime compensation with the enactment of new §225, created by §70202 of the law. Beginning in tax year 2025 and sunsetting after 2028, individuals may deduct up to $12,500 annually ($25,000 on a joint return) in qualified overtime compensation.
This deduction reduces taxable income but does not reduce AGI, and it is not an itemized deduction. The provision applies to the amount paid to an individual that exceeds the regular rate at which the individual is employed (i.e., the rate differential).
The taxpayer’s Form W-2 must disclose the amount of qualified overtime compensation. The IRS is authorized to issue further guidance on reasonable estimation methods for pre-2026 reporting.
The individual’s overtime deduction is reduced by $100 for every $1,000 of MAGI over $150,000 ($300,000 on a joint return), but never below zero. MAGI includes income excluded under §911, §931, and §933. Fractional overages do not trigger a reduction.
A valid Social Security number (SSN) issued before the return due date (including extensions) is required. The absence of an SSN is treated as a math error, allowing IRS adjustment without a notice of deficiency. If married, taxpayers must file jointly unless they are considered unmarried under §7703.
No Tax on Social Security
Let’s be clear, the OB3 Act does not change Social Security taxation at all. Instead, it introduces a temporary below-the-line deduction for those age 65 or higher, created by §70103 of the law. Beginning in tax year 2025 and sunsetting after 2028, an individual who meets the age requirement may deduct $6,000 annually.
This deduction reduces taxable income but does not reduce AGI, and it is not an itemized deduction; in fact, it is added to §151 as part of personal exemptions (otherwise permanently terminated in the new law).
The senior citizen deduction is reduced by 6% of MAGI to the extent it exceeds $75,000 ($150,000 on a joint return), but never below zero. MAGI includes income excluded under §911, §931, and §933. Fractional overages do not trigger a reduction.
A valid Social Security number (SSN) issued before the return due date (including extensions) is required. The absence of an SSN is treated as a math error, allowing IRS adjustment without a notice of deficiency. If married, taxpayers must file jointly unless they are considered unmarried under §7703.