Background
In a wild summer of tax related legislative changes, the compensation and benefits realm underwent a myriad of changes related to for profit and tax exempt entities, dependent care, and payroll reporting. On July 4, President Donald Trump signed into law the House Resolution 1 (the Act) which sought to codify many of the campaign promises of his administration. These promises included removing taxes on tips and overtime, extending popular business tax provisions from the Tax Cuts and Jobs Act (TCJA), reforming Medicaid, and repealing clean energy credits. In addition to these changes, the Act contained significant provisions related to compensation and benefits. Forvis Mazars discusses the potential compensation and benefits tax legislative changes related to reconciliation and their impact on taxpayers below.
Business Deductions
The first major area of changes related to compensation comes in the form of business deductions. The key provisions proposed in the Act related to business deductions revolves around excessive employee compensation. The changes are summarized below:
Excessive Employee Renumeration from Controlled Group Members and Allocation of Deduction
Section 162(m) limits the deduction for compensation paid to covered employees of publicly held corporations to $1,000,000. A covered employee is any employee serving as the principal executive officer or principal financial officer, and the next three highest paid officers. Additionally, once an employee is considered covered, they will always be considered covered and subject to the limit.
Previously, aggregation under section 162(m) was limited to section 1504 affiliated groups of corporations. The Act, however, expands aggregation under section 162(m) to include controlled groups. Under this rule, a controlled group’s deduction for compensation of covered employees would be limited to $1,000,000 for the entire group. The rule requires the deduction to be allocated between members of the controlled group. Per the Act, this rule would take effect for tax years beginning after December 31, 2025.
Forvis Mazars Insight: This change will subject a wider group of employees to potential treatment as covered employees. Additionally, for tax years beginning after December 31, 2026, the term “covered employee” has been expanded by the American Rescue Plan Act to also include the top five most highly compensated employees—in addition to the organizations most highly compensated officers—resulting in a publicly held corporation having no less than 10 covered employees in a year. While these employees are determined annually and are not considered permanently covered for subsequent years, this change will capture highly-compensated non-officers who historically have not been subject to the limitation.
Expanding Application of Tax on Excess Compensation Within Tax Exempt Organizations
Section 4960 levies a 21% excise tax on tax exempt employers who pay over $1,000,000 in compensation or parachute payments to covered employees. In this context, covered employees are any employee or former employee that rank among the five most compensated employee during the taxable year.
The Act modifies the definition of covered employee by expanding it to include all employees rather than the top five compensated employees. The provision also includes employees of related persons or government entities in this definition.
Forvis Mazars Insight: The existing carve out removing renumeration in exchange for medical and veterinary services from the amount subject to the excise tax remains in effect. As such, the impact of medical institutions will likely be minimal. However, due to the expansion of the covered employee definition, universities and other large 501(c)(3) organizations with large numbers of highly compensated individuals may fall more heavily under this tax regime.
Individual “Above the Line” Deductions
No Tax on Tips and Overtime
As key campaign promises proffered by the Trump administration, the no tax on tips and no tax on overtime provisions proved to be a headliner in the Act. The provisions allow for an above-the-line deduction for “qualified tips” and “qualified overtime compensation.” Both provisions are effective for tax years 2025 through 2028.
The no tax on tips deduction is limited to $25,000 of qualified tips as reported on Form W-2, 1099-K, 1099-NEC, or Form 4317. Tips must be voluntary (i.e., service charges of a percentage of the total bill for gratuity are ineligible). The no tax on overtime deduction is limited to $12,500 of qualified overtime compensation as defined by the Fair Labor Standards Act of 1938.
Employers are still required to report the income. As this is an income tax deduction, FICA taxes will apply to both items. The Secretary of the Treasury will provide modified income tax withholding tables for tax years beginning in 2026. For 2025, the Act provides a transition rule permitting employers to use a reasonable method to approximate the amount of qualified tips and overtime.
The Act excludes highly compensated individuals from receiving the tips and/or overtime deduction via a phase out based on modified adjusted gross income (MAGI) over $150,000 ($300,000 for married filing joint (MFJ) returns) which reduces the deduction by $100 for every $1,000 over the limit.
Forvis Mazars Insight: There are a number of areas where additional guidance is needed. At the federal level, it’s unclear how the Form W-2 will be revised to account for qualified tips, qualified overtime, and the occupation of the employee. Additionally, for the 2025 transition, employers currently have no instruction on how to provide the information relating to their reasonable approximation qualified tips and overtime amounts or whether service providers can rely on their own supporting documentation to claim a higher deduction. At the state level, it is yet to be determined which states will follow federal law and exempt qualified tips and/or overtime from state income taxes/withholding.
Employee Fringe Benefits - Taxable
In addition to the changes made to “above the line” deductions listed above; the Act permanently repealed some notable income inclusion deductions.
Termination of Moving Expense Reimbursement
Historically, taxpayers could deduct qualified moving expenses and exclude qualified moving expense reimbursements from their gross income if they were moving for work. The law required taxpayers to move at least 50 miles from their former residences and maintain full time employee status in their new location. The TCJA suspended the deduction and exclusion for all taxpayers except those serving in the Armed Forces and their families.
The Act permanently terminates both the deduction and exclusion for all taxpayers moving except for those serving in the Armed Forces and their families.
Termination of Qualified Bicycle Commuting Reimbursement
Taxpayers who regularly commuted to work using a bicycle used to be permitted to exclude up to $20 of commuting reimbursements for each month the taxpayer utilized a bike for a substantial portion of their commute to work until the TCJA suspended the provision for tax years beginning after December 31, 2017, and before January 1, 2026.
The Act permanently terminates the exclusion for tax years beginning after December 31, 2025.
Employee Fringe Benefits – Non-Taxable
The Act includes a couple notable provisions in the non-taxable employee fringe benefit realm aimed at education and child welfare.
Trump Accounts
The so-called Trump accounts create a tax advantaged savings account for children in the U.S. born between January 1, 2025, and December 31, 2028. The government will provide a one-time $1,000 contribution into these accounts for every child born in the U.S. during this period. These accounts will grow tax deferred until withdrawn after the child reaches 18 years of age. Parents and their employers may contribute to this account under an overall $5,000 contribution limit per year. Pursuant to newly created Section 128, up to $2,500 of employer contributions to this account are excludable from an employee’s gross income.
Forvis Mazars Insight: When the express language of Section 128 is read strictly, the $2,500 exclusion appears to be a lifetime, not annual, limit. This, however, serves as a departure from the treatment of Sections 127, educational assistance programs, and 129, dependent care assistance programs—both of which expressly offer annual exclusions. Based on this and other interpretations, there is some debate among practitioners on whether the exclusion should be lifetime or annual. At this time, it is unclear and likely requires IRS guidance.
Educational Assistance
Under the CARES Act, employees and employers may exclude up to $5,250 of educational assistance payments provided by an employer from gross income and payroll taxes, respectively. According to the law, educational assistance payments include payments on student loan principal and interest. The CARES Act set this provision to expire before January 1, 2026.
The Act renders the expansion of qualified educational assistance to included student loan payments permanent and indexes it for inflation.
Child and Dependent Care
In addition to the provisions above, the Act contains some additional provisions related to child and dependent care.
Dependent Care Assistance Program
Previous versions of the dependent care assistance plan allowed for a maximum of $5,000 annually to be excluded from gross income for expenses paid for the care of qualifying dependents under Section 129 by an employer.
The Act increased the exclusion to $7,000 annually for all tax years beginning after December 31, 2025.
Employer Provided Child Care Credit
Under previous law, Section 45F allowed up to a $150,000 nonrefundable credit to businesses providing childcare expenses to their employees. The credit is calculated by multiplying eligible childcare expenses by 25%.
The Act expands the maximum allowable credit to $500,000 ($600,000 for small businesses) and increases the credit rate from 25% to 45% (50% for small businesses) for tax years beginning after December 31, 2025. For expenses related to childcare resources and referral expenditures, the credit is capped at 10%.
Paid Family and Medical Leave Credit
The TCJA created the Paid Family and Medical Leave Credit (PFMLC) to subsidize medical and family leave. The PFMLC allows employers to claim a general business credit of 12.5% of the wages paid to qualified employees on medical leave up to 12 weeks. An eligible employer must provide at least two weeks of paid PFML, possess a written PFML policy, and pay at least 50% of an employee’s customary wages while they are on leave. An eligible employee consists of a full or part-time employee with a tenure of at least one year who earns less than 60% of the $96,000 limit.
The Act makes the PFMLC permanent and expands the terms of the credit. In tax years beginning after December 31, 2025, the Act expands the credit to include expenses incurred for insurance premiums for employees on leave. It also extends availability of the credit to all states and lowers the minimum employee tenure required from one year to six months. The expanded credit will be effective for all tax years beginning after December 31, 2025.
Other Payroll Reporting
The Act also contains several provisions related to payroll reporting and tax credits.
Reporting Threshold for Forms 1099-NEC and 1099 – MISC
Businesses paying vendors and independent contractors were required to report compensation over $600 on 1099-NEC and 1099-MISC. For tax years beginning after December 31, 2025, businesses will be required to report vendor and contractor compensation in excess of $2,000 on forms 1099-NEC or 1099-MISC.
Employee Retention Credit
The Act impacts credits claimed for the third and fourth quarters of 2021 by invalidating unpaid claims filed after January 31, 2024, and increasing the statute of limitations from five to six years. The Act also defines “Covid-ERTC Promoter” as anyone who “provides aid, assistance, or advice” in regard to ERTC documents and claims. For any promoter who fails to comply with due diligence requirements, the Act assesses a $1,000 penalty. Additionally, the Section 6626 twenty-percent penalty was expanded to include erroneous refunds of employment taxes.
How Forvis Mazars Can Help
The Act contains a number of changes impacting the compensation and benefits sector that may impact you or your business. Forvis Mazars developed a 2025 Tax Bill Guide that summarizes the Act’s provisions. We also offer a suite of services aimed to guide you through these changes. For questions related to any of these changes or strategies to help navigate them, contact us here.