The Overtime Questions Heading to Your Business Office

School district payroll has always been complicated. But 2026 is shaping up to be a different kind of complicated, and it's landing squarely on the desks of K-12 finance and payroll staff who are already stretched thin.

The One Big Beautiful Bill Act (OBBBA), signed into law July 4, 2025, includes a provision that has moved quickly through county guidance sessions and business office inboxes: overtime pay is now partly tax-free for eligible employees. Bus drivers, custodians, food service workers, paraeducators, and coaches who regularly work extra hours can deduct up to $12,500 in qualifying overtime premiums from their federal taxable income, or up to $25,000 for married filers. The deduction phases out for individuals earning above $150,000 ($300,000 for married filing jointly) and runs through 2028.

The catch is that your district has to document which portion of each employee's overtime actually qualifies, which is where many business offices are discovering gaps they didn't know they had.

What actually qualifies

The deduction applies only to the premium portion of FLSA-required time-and-a-half: the extra "half" above the regular rate, not the full overtime wage. If an employee earns $20 per hour and $30 for overtime, only the $10 premium qualifies. And critically, the employee must have actually worked more than 40 hours in that week. Hours paid at overtime rates under a union agreement don't automatically meet the FLSA threshold.

The practical implication: "When someone's filling out their timesheet, it's documented that you worked five hours of overtime, but you were only scheduled to work 35 hours. So you're still getting paid five hours of overtime, but none of that meets the tax deductible rules for FLSA."

K-12 districts need systems that can distinguish between "overtime pay" and "FLSA overtime for tax reporting purposes." 

The underlying compliance gap

For many business offices, the OBBBA reporting requirement is surfacing a more fundamental issue. FLSA has always required accurate records of actual hours worked by non-exempt employees. Many districts have operated for years on simplified systems built around exception-reporting rather than hour-by-hour tracking.

However, as complexity increases, these systems may no longer be sufficient. For example, if an employee takes a sick day and then works extra hours compensated at an overtime rate per their union agreement, those hours may not count toward the 40-hour FLSA threshold. Absence data and actual-hours-worked data have to be reconciled accurately to get it right, and in most districts, those live in separate systems.

A shared challenge

Business office staff across the country are working through the same questions right now: "How can we calculate this? How are we going to be able to track if it was overtime, more than 40 hours this week or less than 40 hours?"

In some cases, county offices of education are stepping up. One district mentioned there were "125 people on the zoom" for their county's guidance session, which reflects how widespread and urgent this feels to the people doing the work.

What has changed

The 2025 tax year is behind you. Under IRS Notice 2025-62, employers were not penalized for failing to separately report qualified overtime on 2025 W-2s. However, beginning with the 2026 tax year, districts must report qualified overtime compensation on Form W-2 Box 12 using new Code TT, and penalties for non-compliance range from $50 to $250 per return.

Your first priorities

• First, confirm your payroll system can separate the FLSA overtime premium from base wages on overtime hours. If it produces a single blended overtime figure, that needs to change. 

• Second, make sure the workflows between HR, payroll, and finance produces structured, audit-ready records for every non-exempt employee, every pay period. 

• Third, audit non-exempt employee classifications, particularly for staff with multiple assignments, since FLSA calculates overtime on a blended regular rate across all roles in a workweek.

The complexity is higher in K-12 than in most sectors. Employees working varying daily hours across 10-month and 12-month calendars, with layered union agreements and multiple job codes, create combinations that require care to get right. And, of course, each district brings its own nuances in processing, systems, and employee classifications.

The broader context

Post-ESSER budget pressures, flattening state revenues, and new federal cost-sharing shifts mean K-12 business offices are managing more with less. As AASA noted in its August 2025 OBBBA analysis, the legislation's impacts on district finances are broad, and Medicaid and SNAP changes alone are expected to create significant downstream budget pressure on states. Whiteboard Advisors similarly observed heading into 2026 that "fixed costs like wages, transportation, and insurance are rising," leaving little room for unplanned administrative burden.

K-12 finance teams are skilled at navigating through ambiguous and complex scenarios. With clear processes, good information flowing between HR, payroll, and finance, and county and peer networks, districts will be able to successfully implement the new requirements of the OBBBA.

IRS guidance on OBBBA compliance continues to evolve. For current information, consult IRS Notice 2025-62, IRS Notice 2025-69, your county office of education, and legal counsel familiar with public employer requirements in your state.