No tax on overtime, tips, and car-loan interest: what employees can actually deduct

The 2025 tax law added several temporary deductions aimed at workers. These aren't true exemptions but deductions with caps and phase-outs. All of them are available whether or not you itemize, and each is claimed on the new Schedule 1-A. Social Security and Medicare taxes still apply to overtime and tips, and these deductions lower taxable income, not AGI.

Overtime premium deduction

• You deduct the premium portion of overtime required by the Fair Labor Standards Act, generally the extra half in time-and-a-half.
• The deduction is capped at $12,500, or $25,000 on a joint return.
• It is reduced by $100 for every $1,000 of modified AGI above $150,000 ($300,000 joint).
• Married couples must file jointly, and you need a valid Social Security number on the return.
• The deduction applies for 2025 through 2028.

Overtime paid under a union contract or state law that isn't FLSA-required doesn't qualify. Only the premium the FLSA requires counts, and exempt salaried employees generally don't have qualifying overtime.

Qualified tips deduction

• You can deduct up to $25,000 per return of voluntary cash or charged tips in occupations the IRS lists as customarily receiving tips. The cap is not doubled on a joint return, and the customer must choose the amount, without negotiation.
• Tips don't qualify if your employer's business is in a "specified service" field such as health, law, consulting, performing arts, or athletics, even if your occupation is on the list.
• The phase-out is the same as for overtime, starting above $150,000 MAGI ($300,000 joint).
• Married couples must file jointly, and you need a valid Social Security number on the return.
• Tips count if they're on your W-2, a 1099, or another payer statement, or if you report them yourself on Form 4137 and pay Social Security and Medicare tax on them. Mandatory service charges don't count.

Car-loan interest

• You can deduct up to $10,000 of interest a year on a loan for a new car, SUV, pickup, or motorcycle whose final assembly was in the U.S. The vehicle must have a gross vehicle weight rating under 14,000 pounds.
• The loan must be originated after December 31, 2024, secured by a first lien on the vehicle, and not owed to a family member or other related party. Only personal-use vehicles qualify, and a refinanced qualifying loan still counts, up to the old balance.
• Your return must include the vehicle's VIN for each year you claim the deduction.
• The deduction phases out above $100,000 MAGI ($200,000 joint).

Key numbers: overtime $12,500 / $25,000 · tips $25,000 per return · car-loan interest $10,000 · SALT cap $40,400 for 2026 · non-itemizer charitable deduction $1,000 / $2,000.

SALT and charitable changes

The state and local tax deduction cap is $40,400 for 2026, reduced by 30% of MAGI above $505,000 but never below $10,000. The higher cap is temporary, rising 1% a year through 2029 before dropping back to $10,000 in 2030, and married couples filing separately get half. For homeowners in high-tax states, itemizing is again worth considering.

From 2026, people who take the standard deduction can deduct cash gifts to charity of up to $1,000, or $2,000 on a joint return. The gifts must go to a public charity, and donor-advised funds and supporting organizations don't count. Itemizers now face a floor, and only charitable gifts above 0.5% of AGI count.

In Connecticut

None of the overtime, tip, or car-loan deductions reduce Connecticut tax. They're taken on Schedule 1-A after AGI, and Connecticut's return starts from federal AGI. As of November 2026, Connecticut hasn't enacted matching subtractions, so the couple in the example below would save nothing on a Connecticut return. The state also has no itemized deductions. Its property tax break is a credit of up to $300 that phases out between $49,500 and $109,500 of Connecticut AGI for single filers ($70,500 to $130,500 joint). On your federal Schedule A, Connecticut income tax and town property taxes count toward the SALT cap, and under IRS Revenue Ruling 2025-4 that includes CT Paid Leave contributions. See our Connecticut guide.

A worked example

Consider a married couple in which one spouse is an hourly nurse with $14,000 of FLSA overtime premium and the other is a server with $18,000 of reported tips. Their joint MAGI of $165,000 is under the $300,000 phase-out. They deduct $14,000 for overtime and $18,000 for tips, which cuts taxable income by $32,000 and is worth about $7,000 in federal tax at 22%. The couple also bought a new U.S.-assembled SUV, and the $2,900 of interest they paid on it is deductible as well.

Common mistakes

1. Claiming the full overtime pay rather than the premium portion.
2. Deducting cash tips you never reported anywhere. Tips missing from your W-2 must be reported on Form 4137, and included in income, before you can deduct them.
3. Taking the interest deduction on a used car, a lease, or a vehicle assembled abroad.
4. Forgetting that these deductions don't reduce state taxable income in many states.

How Summer Associates helps

Summer Associates reviews your W-2 reporting, calculates the qualified amounts, and tells you whether itemizing beats the standard deduction under the new SALT cap.

This guide is general education based on federal and Connecticut law as of 2026-11-15. State rules differ and facts matter. Before acting, get advice for your situation from Summer Associates or another qualified advisor.