One Big Beautiful Bill (OBBB): Payroll Effects for Employers

When Congress passed the One Big Beautiful Bill (OBBB) on July 4, 2025, it introduced several significant payroll and tax-related changes that employers need to understand before year-end. Although the bill’s scope is broad, many of its provisions directly affect how businesses handle tipped wages, overtime, and payroll reporting.

At Exact Payroll, we help employers navigate new compliance requirements like these with clarity and confidence. Below is a detailed breakdown of what the OBBB means for payroll and what steps you should take now to stay compliant in 2025.

Understanding the One Big Beautiful Bill

The One Big Beautiful Bill combines a number of tax and labor provisions designed to ease the financial burden on working Americans while simplifying some employer reporting requirements. For payroll professionals, the law creates new deductions for certain types of income and adds reporting obligations to ensure accurate tax filings.

The most widely discussed changes include:

• A new deduction for qualified tips, allowing eligible employees to deduct up to $25,000 in tips from their federal taxable income.
  
  
• A similar deduction for qualified overtime compensation, capped at $12,500 for individuals or $25,000 for joint filers.
  
  
• New employer reporting requirements for both qualified tips and overtime, including W-2 and 1099 form updates.
  
  
• A temporary timeline for these deductions, which apply to tax years 2025 through 2028, unless extended by Congress.
  
  

It’s important to note that these deductions only affect federal income tax. They do not reduce the amounts subject to Social Security, Medicare, or state and local payroll taxes.

How the OBBB Affects Tipped Employees

Under the OBBB, employees working in occupations that “customarily and regularly receive tips” can deduct a portion of their tip income from federal taxable wages. The Treasury Department will released the list of eligible occupations on September 19th.

While this deduction applies to the employee’s tax return, it also creates new responsibilities for employers. Businesses must begin tracking and reporting “qualified tips” separately from other wages so the information can appear on the employee’s W-2 and on employer-furnished statements. The IRS has indicated that, for tax year 2025, employers may use “reasonable methods” for estimating qualified tips while the new system is being implemented.

The OBBB does not change the underlying wage and hour laws that apply to tipped workers. Employers must continue following the Fair Labor Standards Act (FLSA) requirements for tip credits, minimum wage, and overtime pay. Specifically:

• Employers may continue to claim a tip credit toward minimum wage obligations as allowed under FLSA Section 3(m), but the combined hourly rate of direct wages and tips must still equal or exceed the federal minimum wage of $7.25 per hour.
  
  
• The minimum direct cash wage remains $2.13 per hour, unless state or local law requires a higher rate.
  
  
• Overtime for tipped employees must be calculated based on the full minimum wage rate, not the reduced tipped wage.
  
  
• Tip pooling and sharing rules remain unchanged—managers and supervisors may not share in pooled tips.
  
  

Employers in industries that rely heavily on tipping should take steps now to audit their tip-reporting procedures, ensure point-of-sale systems capture accurate tip data, and prepare for expanded reporting once the Treasury’s final guidance is published.

Overtime Pay and the “No Tax on Overtime” Deduction

Another major component of the OBBB is the introduction of a deduction for qualified overtime compensation. Starting in 2025, employees can deduct the “premium pay” portion of overtime — the half-time amount above their regular hourly rate — from federal taxable income. This deduction is limited to $12,500 per year for single filers or $25,000 for married couples filing jointly.

For employers, the impact is mainly administrative. Businesses must accurately identify, calculate, and report the total amount of qualified overtime compensation paid to each employee during the year. The IRS will require this figure to be listed on the employee’s W-2 and included in the employer’s annual filings.

Even with this tax relief, the core rules of the FLSA remain unchanged. Nonexempt employees must continue to receive one and one-half times their regular rate of pay for all hours worked beyond 40 in a workweek. The “regular rate” includes nondiscretionary bonuses, commissions, and other forms of pay unless an exemption applies.

Additional Payroll-Related Provisions

Beyond the tip and overtime deductions, several smaller provisions of the OBBB may affect payroll and benefits administration:

• Paid Family and Medical Leave Credit (Section 45S): The employer credit for paid family and medical leave has been extended and stabilized. Eligible employers may claim a credit of 12.5% to 25% of qualified wages paid to employees on leave, provided a written policy is in place.
  
  
• Benefit plan flexibility: The OBBB includes minor adjustments to contribution limits and carryover rules for Dependent Care FSAs and Health Savings Accounts (HSAs), which employers should review before open enrollment.
  
  
• 1099 reporting thresholds: The law raises certain thresholds for Form 1099-NEC and contractor reporting, reducing paperwork for small payments but requiring payroll systems to apply new thresholds starting in 2025.
  
  
• Fringe benefit clarifications: The bill reaffirms how certain employer-provided benefits, such as educational assistance or transportation subsidies, are treated for tax purposes.
  
  

Considerations for New York Employers

Because Exact Payroll serves many New York businesses, it’s important to understand how the OBBB interacts with state law. The new federal deductions do not alter New York’s wage or tax requirements.

Tips and overtime pay remain fully taxable at the state level, and employers must continue to comply with New York’s stricter rules on minimum wage, tip credits, and overtime for hospitality and service industries. New York’s Paid Family Leave program also continues unchanged and is separate from the federal credit under Section 45S.

Businesses operating in New York City or other local jurisdictions should also confirm compliance with local wage notices, scheduling ordinances, and posting requirements, as those remain in effect regardless of federal changes.

Preparing for Payroll Compliance 

To stay ahead of the OBBB implementation, employers should begin preparing now. Key steps include:

1. Evaluate current classifications to ensure that tipped and nonexempt employees are properly identified.
   
   
2. Update payroll codes and software to separately track qualified tips and overtime compensation.
   
   
3. Review recordkeeping and time-tracking systems to confirm they capture all data required for W-2 and 1099 reporting.
   
   
4. Train payroll and HR staff on the new reporting requirements and updated wage definitions.
   
   
5. Communicate with employees about how these deductions may affect their tax filings, making it clear that the deductions apply to individual tax returns rather than employer withholding.
   
   
6. Schedule a year-end payroll review with Exact Payroll or your tax advisor to ensure compliance before the 2025 reporting cycle begins.
   
   

Partner with Exact Payroll

The One Big Beautiful Bill introduces both opportunities and challenges for employers. While employees may see meaningful tax relief, payroll departments face new layers of reporting and compliance. Exact Payroll is ready to make the transition as seamless as possible. Contact Exact Payroll