Overtime Tax

During the 2023 Regular Legislative Session, Alabama House Minority Leader Anthony Daniels and a bipartisan group of 23 co-sponsors, including Speaker of the House Nathaniel Ledbetter and Ways and Means Education Committee Chairman Danny Garrett, introduced House Bill 217, to exempt full-time hourly waged employees from paying taxes on work performed in excess of 40 hours per week.

As enacted, the law took effect January 1, 2024, and would exempt overtime wages from state income taxes through June 30, 2025.

Alabama adheres to the guidelines of the federal Fair Labor Standards Act (FLSA). Under the FLSA, Alabama employers must pay employees a minimum wage of $7.25 per hour ($290 per week). The FLSA requires that any employee who works more than 40 hours over a seven-day day period receive at least one and a half times their regular pay rate for those hours. In Alabama, that means a minimum of $10.87 per hour for overtime wages.

The state currently taxes overtime wages at the highest applicable tax bracket for an individual. For any employee making over $3,000 per year ($6,000 for joint filers) that rate is 5%. Most overtime wages fall into this bracket.

By exempting overtime wages from state income taxes, Alabamians will take home more of what they earn. Rep. Daniels estimated that an hourly employee making $15 who works five overtime hours per week would see their bi-weekly pay rise by approximately $111. Over the course of a year that’s almost $2,900 in additional income; that is a tax cut that workers could depend on.

Eliminating taxes on overtime pay also provides benefits to employers. Alabama is currently experiencing a “most severe” labor shortage, having only 38 available employees for every 100 jobs openings according to the U.S. Chamber of Commerce.

As of February 2024, Alabama’s labor participation rate was 57.1%. Labor participation represents the number of Alabamians who were employed or were actively seeking employment in the previous 30 days. Alabama ranks among the lowest in the nation for labor participation and has seen a steady decline from a peak participation rate of 65.1% in July of 1997.

Exempting overtime pay from taxes may not provide enough motivation to cause someone to reenter the workforce, but doing so could serve as an incentive for continued and enduring workforce participation. Though there is potential revenue loss, at least a portion of the additional income that a worker takes home will go back into the economy; the state should see revenue increases in areas such as general sales and use tax receipts.

There are currently nine states that do not levy a state income tax. Florida, Tennessee, and Texas do not impose any income taxes. Alabama is at a disadvantage to these states in attracting new citizens and businesses. Eliminating the overtime tax is one way to begin leveling the playing field.

Alabama is the only U.S. state to repeal the income tax on overtime pay. API supports this progress in reducing the tax burden on hardworking employees who are going the extra mile to work overtime to provide for their families. The Alabama Legislature should take steps to make this relief permanent in future legislative sessions.