IRS Issues Guidance on Tips and Overtime Deductions for Tax Year 2025

The Internal Revenue Service (IRS) has issued guidance for workers eligible to claim deductions for tips and overtime income for the tax year 2025. The notice, which provides clarification on how to determine these deductions, is essential for individuals and businesses seeking to accurately report their income.

Understanding the Importance of Accurate Reporting

Accurately reporting income and expenses is crucial for both individuals and businesses. The IRS requires workers to report all income earned, including tips and overtime pay, to ensure they are in compliance with tax laws. Failure to report this income can result in penalties, fines, and even audits.

Key Takeaways from Notice 2025-69

The IRS notice provides clarity on the following key points:

Tips

• The IRS confirms that tips earned by employees who work under a traditional employment arrangement are subject to income tax withholding.
• Employees must complete Form 3926, Reportable Payment and Distribution Receiving, to report tips received.
• Employers must maintain accurate records of employee tip income, including the amount of tips received and the date.

Overtime

• The IRS clarifies that overtime pay is subject to income tax withholding and is not exempt from taxes.
• Employees who work more than 40 hours in a workweek are eligible for overtime pay.
• Employers must maintain accurate records of employee overtime hours, including the number of hours worked and the date.

Reporting Requirements

• Workers must report all tip income received on their tax return (Form 1040).
• Employers must provide employees with a written statement of tips earned by each employee, which must be reported to the IRS.
• Businesses are required to maintain accurate records of tip income and overtime pay for at least three years.

Penalties for Non-Compliance

• The IRS warns that failure to report tip income or overtime pay can result in penalties, fines, and audits.
• Employees who fail to report their tip income may be subject to back taxes, interest, and penalties.
• Employers who fail to maintain accurate records of employee tip income or overtime pay may also face penalties.

Best Practices for Compliance

• Workers should regularly review their tip income on their tax return (Form 1040) to ensure accuracy.
• Employers should maintain accurate records of employee tip income and overtime pay to avoid errors and potential penalties.
• Businesses should provide employees with clear instructions on how to report tips earned and maintain accurate records.

Conclusion

The IRS notice provides essential guidance for workers eligible to claim deductions for tips and overtime income. By understanding the reporting requirements and key takeaways from Notice 2025-69, individuals and businesses can ensure compliance with tax laws and avoid potential penalties. It is crucial to stay informed about changes in tax laws and regulations to maintain accurate records and report income correctly.

Tax Planning Strategies

• Workers should review their tax planning strategies to ensure they are taking advantage of all available deductions.
• Employers should consider implementing a tip credit policy to reduce the burden on employees and minimize potential penalties.
• Businesses should invest in time-tracking software to accurately record employee overtime hours.

Tax Implications

The tax implications of not reporting tip income or overtime pay can be severe. Workers who fail to report their tip income may face:

• Back taxes, interest, and penalties
• Increased audit risk
• Potential for loss of employment benefits

Employers who fail to maintain accurate records of employee tip income or overtime pay may also face:

• Penalties and fines
• Loss of tax credits
• Negative impact on business reputation