Overtime pay is taxed the same as regular wages, but additional income may shift employees into higher tax brackets. This article explains how overtime impacts payroll taxes, exemptions, and how extra earnings affect total tax liability.
By Brad Nakase, Attorney
Email | Call (888) 600-8654
Have a quick question? I answered nearly 1500 FAQs.
One of the most difficult tasks for small companies that are handling payroll alone is keeping track of overtime of hourly employees. You may be asking whether overtime is subject to higher taxes if you are one of these company owners.
When you oversee a busy team, it’s common for the overtime time count to spiral out of control, particularly if you don’t have time monitoring systems that can send you overtime notifications before payment is due.
The quick answer is as follows: There is no higher tax on overtime itself. However, overtime pay has the potential to place overtime workers in a different tax category.
You don’t need to see a specialist because we will address your inquiries regarding tax on overtime & exemptions, giving you the confidence to manage your own payroll.
Now let’s explore overtime pay, overtime tax exemptions, and how to compute taxes with overtime.
Employees who work overtime, which the Dept. of Labor defines as any hours beyond a 40-hour workweek, are not subject to higher taxes. When you use hourly payroll, you will deduct identical taxes from overtime pay as you would from normal salary.
Withholding state, federal, state, and FICA taxes from the staff’s paychecks doesn’t need you to perform two different computations.
However, overtime can cause a person to move into a higher tax bracket, in which scenario the IRS & state tax a larger portion of the employee’s gross income—which includes both regular & overtime income—than they would otherwise.
When processing an employee’s first paycheck after they put in extra hours, take taxes out of the total of their regular and overtime pay. Therefore, if they earned $1,000 in regular income and $300 in overtime, the total will be $1,300.
The following is what you will deduct from that $1,300 on payday:
Taxes paid by employees
Taxes paid by the employer
The absence of a separate tax on overtime gives you peace of mind. The necessary taxes will simply be deducted from the employee’s total income in that pay time frame, which includes both regular and overtime earnings.
Indeed, workers who put in more overtime may have more taxes withheld, but this is because they are taxed at a greater rate when the overtime income puts them in a higher tax bracket.
Going above and beyond the standard work schedule is known as working overtime. Depending on the industry and position, it may differ.
Some jobs, such as office employment, often need eight hours per day or forty hours per week of work. In an office job, overtime is defined as working more than certain hours, such as nine or ten hours each day.
Due to the way the tax system operates, overtime may be subject to more taxes than regular wages. The government deducts taxes from your income, such as your regular earnings. Typically, your income determines how much tax you must pay.
You may now find yourself in an upper tax bracket if you put in more hours and make more money. Every tax bracket has a separate tax rate and is similar to various income-based levels and categories.
The tax rate may increase as your income rises.
1. Higher incomes translate into higher tax brackets
Thus, receiving overtime pay may result in you being placed in an upper tax bracket, which could increase the proportion of taxes you must pay on the additional income.
This implies that a higher percentage of your overtime income is taxed than your regular salary.
2. Overtime differs depending on the industry
The typical working schedule may differ in different industries. Healthcare, manufacturing, and retail, for instance, might have varied work schedules. Doctors and nurses in the medical field frequently work shifts, and any additional hours above their allotted period may be deemed overtime.
Overtime is when workers put in more hours than they are supposed to, which may occur in restaurants or manufacturing where work schedules may differ.
Depending on the demands of the job and industry standards, overtime can differ by position. When they put in over forty hours of work a week, hourly workers—such as those in stores or restaurants—usually qualify to receive overtime compensation.
The eligibility of salaried workers for overtime compensation may vary based on their particular position and local laws. Due to the possibility that working extra hours is part of their duties, professional and managerial positions frequently do not earn overtime compensation.
Frequently, negotiated agreements that specify overtime requirements and pay are found in unionized positions.
Monitoring expensive overtime hours is essential to controlling your small business payroll expenses because the lawful overtime rate of payment is 1.5 times the worker’s usual hourly rate. Employee taxes may get more complicated if their extra hours place them in higher tax brackets.
Despite the lack of a particular “tax on overtime,” you will still need to compute overtime taxes in the same way that you would for ordinary taxes.
Your employee’s overtime salary should be taxed with their normal pay when payroll is processed. Assuming you pay John on a weekly basis, let’s examine how you would compute his Federal Income Tax Withholdings (FITW).
John, however, put in seven more hours of extra this week. For every overtime hour, you have to compensate him time-and-a-half, which is equivalent to 1.5 times the hourly rate, in accordance with the FLSA (Fair Labor Standards Act). John earned $189 in overtime pay, which is equivalent to his overtime rate of $27 per hour.
To determine John’s taxable income, add his normal salary and overtime compensation:
Regular wages of $720 plus overtime earnings of $189 equals total taxable earnings of $909.
Payroll taxes can be completed by hand, but figuring out each employee’s income tax withholdings takes time. To prevent tax liability, maintain compliance with labor laws, and streamline, simplify, and eliminate errors, we advise utilizing automated payroll system software.
Employees who fulfill the following criteria are exempt from overtime compensation under the FLSA (Fair Labor Standards Act):
Depending on a number of variables and unique situations, employees may find that working overtime is worthwhile. Let’s talk about the advantages and disadvantages, as well as the tax ramifications.
Benefits of putting in extra time at work:
Drawbacks of putting in overtime:
Although there may be financial ramifications for working overtime, this does not always mean that it is a poor choice. Your take-home pay can really rise even if you put in more hours.
1. Tax bracket changes
One common misperception is that increasing your overtime pay puts you in a higher tax category, where your entire salary is subject to greater taxes. However, because brackets of tax are marginal, only the income falling into each bracket is subject to that particular rate of taxation.
So, regardless of whether you go into a bracket with a greater tax burden, the greater rate of taxation only applies to the percentage of your income that falls into that bracket.
For instance, just the $1,225 (which is the surplus over $41,775) will be subject to the higher tax rate if you make $40,000 per year and are in a 12% tax bracket. However, you might work overtime to make an extra $5,000, which would put you in a 22% tax bracket. The reduced tax rate is still applied to the remainder of your income.
2. Rate of overtime pay
For overtime, many firms give a greater rate of compensation. This implies that for every extra hour you work, you not only make more money but additionally receive an hourly rate that is higher. Therefore, you might still have more take-home income than you would have with your regular salary after taxes are deducted.
For example, if you are paid $15 per hour and the overtime rate equals $22.50 (or 1.5 times your usual rate), then working overtime may substantially boost your salary.
Occasionally, putting in extra hours can be a short-term fix to reach certain financial objectives or deal with unforeseen costs. Even while the extra income can be subject to a little higher tax rate, it might nevertheless help you manage unforeseen financial circumstances or reach your goals more quickly.
Keep in mind that every person has a unique tax status, so it’s critical to take your own scenario into account.
To precisely determine how overtime will affect your net income, it is advisable to speak with tax experts or make use of trustworthy tax calculators.
It is important to make it clear that there is no set rate for the taxation of overtime in order to improve the conversation about the “overtime tax rate” and the question of “How much overtime constitutes too much.”
Rather, the combination of overtime pay and regular income may put a person at a higher rate of taxation, which would impact their total tax liability.
It comes down to assessing individual boundaries and the wider effects on one’s financial stability and general well-being when it comes to the question of excessive overtime.
Long-term repercussions should be carefully considered, weighing financial benefits against possible personal and health costs, even while more work hours provide an instant pay rise.
Have a quick question? We answered nearly 2000 FAQs.
See all blogs: Business | Corporate | Employment Law
Most recent blogs:
Contact our attorney.