Internal Revenue Service, Fact Sheet FS-2026-13, “Updates to Questions and Answers About the New Deduction for Qualified Overtime Compensation” (August 2026)

The enactment of the One, Big, Beautiful Bill Act (OBBBA), Public Law 119-21, 139 Stat. 72 (July 4, 2025), introduced a landmark, temporary income tax deduction for “qualified overtime compensation” under the newly created Internal Revenue Code (IRC) Section 225. Grounded in the statutory mandate to provide tax relief for hourly workers, the deduction is effective for taxable years beginning after December 31, 2024, and terminates for taxable years beginning after December 31, 2028. In the initial implementation phase, the Department of the Treasury and the Internal Revenue Service (IRS) recognized that employers and payroll processors lacked the administrative infrastructure to track and report this new category of compensation. Consequently, Notice 2025-62 established taxable year 2025 as a transition period, granting comprehensive relief from information reporting penalties under IRC Sections 6721 and 6722. Notice 2025-69 subsequently provided guidance for individual taxpayers filing their taxable year 2025 returns, allowing them to use “reasonable approximation methods” (Methods A through G) based on pay stubs, daily logs, and other personal documentation to calculate and claim their deductions in the absence of formal employer-provided reporting statements.

On August 6, 2026, the IRS issued Fact Sheet FS-2026-13, which officially “updates frequently asked questions for qualified overtime compensation” and “supersedes earlier FAQs that were posted in FS 2026-01 on Jan. 23, 2026”. This latest administrative release marks a crucial transition from the flexible, taxpayer-relying reporting posture of 2025 to a strict, compliance-driven framework for the remaining years of the deduction (taxable years 2026 through 2028). For CPAs and Enrolled Agents (EAs), understanding the technical mechanics of Fact Sheet FS-2026-13 and its intersection with statutory provisions is vital to ensuring proper compliance, avoiding accuracy-related penalties, and advising both individual and corporate clients.

Analyzing the Statutory Framework of Internal Revenue Code Section 225

To properly contextualize the administrative updates in Fact Sheet FS-2026-13, practitioners must first master the statutory baseline established by IRC Section 225.

Under IRC Section 225(a), an individual taxpayer is allowed an income tax deduction “equal to the qualified overtime compensation received during the taxable year and included on statements furnished to the individual pursuant to section 6041(d)(4) or 6051(a)(19)”.

The deduction is subject to strict statutory caps and phase-outs based on the taxpayer’s filing status and income. IRC Section 225(b)(1) limits the maximum annual deduction to “$12,500 ($25,000 in the case of a joint return)”. Under Section 225(b)(2), this maximum deduction is phased out for higher-income taxpayers, being reduced “by $100 for each $1,000 by which the taxpayer’s modified adjusted gross income exceeds $150,000 ($300,000 in the case of a joint return)”. Modified Adjusted Gross Income (MAGI) is defined in Section 225(b)(2)(B) as adjusted gross income increased by any foreign or territory income excluded under Sections 911, 931, or 933.

The core definition of the deductible compensation is set forth in IRC Section 225(c)(1), which defines “qualified overtime compensation” as:

“overtime compensation paid to an individual required under section 7 of the Fair Labor Standards Act of 1938 that is in excess of the regular rate (as used in such section) at which such individual is employed.”

This definition restricts the tax deduction to the overtime premium—specifically, the “one-half” premium portion of the “one and one-half times” the regular rate—required by federal law. Any overtime compensation paid on an employer’s own initiative, under collective bargaining agreements, or pursuant to state laws that exceed the FLSA’s statutory minimums is excluded from the definition of qualified overtime. Furthermore, Section 225(c)(2) explicitly excludes from qualified overtime compensation any “qualified tip” as defined in Section 224(d).

Finally, the statute imposes strict procedural controls. No deduction is allowed under IRC Section 225(d)(1) unless the taxpayer includes a valid “social security number” (defined under Section 24(h)(7) as valid for employment) on their return. Married individuals under Section 225(e) are barred from claiming the deduction if they file married filing separately, as the deduction “shall apply only if the taxpayer and the taxpayer’s spouse file a joint return for the taxable year”.

Key Distinctions Between the Initial Guidance and the August 2026 Update

Fact Sheet FS-2026-13 introduces several major structural changes compared to the initial guidance provided in Fact Sheet FS-2026-01 (issued on January 23, 2026). The primary distinctions are centered on the mandatory implementation of employer-level information reporting and the complete elimination of individual-level approximation methods.

First, Fact Sheet FS-2026-13 “deletes information that was applicable solely to the 2025 taxable year”. This deletion reflects the expiration of the transition period. During the 2025 transition, employers were not penalized for failing to report qualified overtime, and taxpayers were allowed to calculate their own deductible amounts using pay statements or other corroborating daily logs. For tax years 2026 through 2028, these self-calculation approximation methods are completely eliminated.
Second, the August 2026 update establishes that separate, formal information reporting is a non-negotiable statutory prerequisite to taking the deduction. As stated in Question 20, “for tax years after 2025, employees may not consider any amount of qualified overtime compensation in excess of what is reported on Form(s) W-2, box 12, code TT in determining their deduction”. This represents an enormous shift: while individual taxpayer substantiation (e.g., daily logs and pay stubs) was sufficient to claim a deduction for the 2025 tax year under Notice 2025-69, for 2026 and beyond, if an employer fails to report the amount in Box 12, Code TT of the Form W-2, the employee is legally barred from claiming the deduction.
Third, Fact Sheet FS-2026-13 “provides additional information on coverage and exemptions under the FLSA” to help employers determine eligibility, including a new question addressing business owners. Under Question 5, the IRS clarifies that “an employee who owns at least a bona fide 20-percent equity interest... and who is actively engaged in its management, is considered a bona fide executive exempt from 29 USC § 207’s overtime requirement”. Consequently, these employee-owners are FLSA overtime-ineligible and cannot receive qualified overtime compensation for tax purposes.
Fourth, the August 2026 Fact Sheet adds crucial, new guidance regarding “federal income tax withholding procedures”. It makes clear under Question 8 that qualified overtime compensation remains fully subject to standard federal income tax withholding, and employers “may not reduce withholding on wages to account for the qualified overtime deduction unless the employee furnishes the employer an updated and valid Form W-4”. Employees wishing to adjust their withholding must submit a new Form W-4 utilizing the newly updated Step 4(b) deduction worksheet or the IRS’s updated Tax Withholding Estimator.
Finally, the new Fact Sheet addresses administrative issues for federal employees in far greater detail, specifically outlining OPM regulations (5 CFR part 551) and clarifying under Question 27 how unused compensatory time off authorized under 5 USC § 5543 is liquidated and treated as qualified overtime compensation when paid out.

How Fact Sheet FS-2026-13 Aligns with and Departs from Notices 2025-62 and 2025-69

As a technical matter, Fact Sheet FS-2026-13 preserves the core statutory definitions established in Notice 2025-62 and Notice 2025-69 but represents a major departure regarding enforcement, compliance, and the availability of administrative relief.

The August 2026 Fact Sheet aligns perfectly with Notice 2025-69 regarding the underlying mathematical and legal definition of qualified overtime. Notice 2025-69 defined qualified overtime under IRC Section 225(c) as “overtime compensation paid to an individual required under section 7 of the FLSA that is in excess of the regular rate at which the individual is employed”. Fact Sheet FS-2026-13 mirrors this exact definition, stating under Question 10 that “qualified overtime compensation is the amount of overtime compensation required under 29 USC § 207 that is in excess of the employee’s regular rate”. Furthermore, FS-2026-13 preserves the general mathematical calculation formula introduced in 2025:

“Number of FLSA hours worked in excess of 40 hours in a workweek x One-half x Employee’s FLSA regular rate of pay = Qualified overtime compensation for workweek”.

The fundamental departure between Fact Sheet FS-2026-13 and the 2025 Notices lies in the strict enforcement of information reporting under IRC Section 6051(a)(19). Notice 2025-62 regarded 2025 as a transition period and provided that “the IRS will not impose a penalty under sections 6721, or 6722” on employers who failed to separately provide the total amount of qualified overtime compensation. Notice 2025-69 aligned with this transition by allowing individual employees to “treat the separate accounting requirement as satisfied if the qualified overtime compensation is properly reported on the individual’s Form W-2...without regard to the requirements of section 6051(a)(19)... and base the determination of the amount...on other documentation”.

Fact Sheet FS-2026-13 completely shuts down this transitional pathway. For tax years 2026 and beyond, there is no transition relief. Separate reporting is mandatory. Starting in 2026, employers must report this amount in box 12 of Form W-2 using code TT. If an employer erroneously omits or understates this amount, Question 22 explicitly states that “any amount not reported on Form(s) W-2, box 12, code TT may not be considered for purposes of the deduction”. The employee’s only recourse is to request a corrected Form W-2c from their employer; they are statutorily barred from claiming the deduction for the omitted amounts even if they have perfect pay stubs and daily logs to prove the overtime was worked. Furthermore, Question 23 states that a substitute Form W-2 (Form 4852) “does not satisfy the requirement under section 225(a) because it is not furnished pursuant to section 6051(a)(19)”. Thus, the IRS has effectively shifted the entire burden of compliance and substantiation onto the employer’s payroll system, making the employee’s tax benefit entirely dependent on the employer’s administrative execution.

Critical Action Items for Individual Taxpayers and Employers

With the issuance of Fact Sheet FS-2026-13, tax professionals must immediately advise their clients to take the following actions to protect their deductions and ensure compliance:

For Individual Taxpayers (Employees):

Verify Employer Reporting Compliance: Employees must proactively confirm with their employers’ HR or payroll departments that systems are in place to track and report qualified overtime under box 12, code TT of the Form W-2 starting in tax year 2026.
Audit Forms W-2 and Request Corrections Promptly: Upon receiving their 2026 Form W-2, employees must audit the amount reported in Box 12, Code TT against their pay statements. If the employer has omitted or understated this amount, the taxpayer must immediately request a corrected Form W-2c. They must be advised that they cannot use substitute Form 4852 or reasonable approximation methods to claim the deduction for any unreported qualified overtime.
Submit Updated Forms W-4: To enjoy the cash-flow benefits of the qualified overtime deduction throughout the year, eligible employees should file an updated 2026 Form W-4 with their employers, utilizing Step 4(b) to estimate and reduce federal income tax withholding on their pay.
Ensure Procedural Baseline Requirements are Met: Taxpayers must ensure they have a valid Social Security Number issued by the SSA before the due date of the return (including extensions) and must file a joint return if married.

For Business Clients (Employers and Payors):

Implement Weekly Payroll Tracking Systems: Employers must ensure their payroll software is properly configured to calculate “qualified overtime compensation” on a workweek-by-workweek basis, isolating the “one-half” premium required under FLSA Section 7 (29 USC § 207) from any base rate wages or non-FLSA overtime premiums.
Comply with Box 12, Code TT Reporting Mandates: Employers must report the total qualified overtime compensation paid to eligible employees in Box 12 using Code TT on the 2026 Form W-2, even if the total paid exceeds the employee’s statutory deduction limit of $12,500.
Execute Prompt Corrections via Form W-2c: If an employer discovers an error in Box 12, Code TT, they must file Form W-2c with the Social Security Administration and furnish it to the employee as soon as possible to avoid information reporting penalties under IRC Sections 6721 and 6722.
Exclude Excluded Owners: Employers must ensure that employee-owners holding a 20% or more equity interest actively engaged in management are properly classified as exempt FLSA-ineligible executives, meaning no qualified overtime compensation should be reported for them on Form W-2.

Prepared with assistance from Gemini Notebook.