Is Overtime Taxed More in California?

Many believe overtime earnings are taxed at a higher rate than regular wages. This article clarifies how income, including overtime, is taxed under the progressive income tax systems of the U.S. federal government and most states, including California. It explains why this perception arises, distinguishing between actual tax liability and temporary withholding practices.

Understanding Progressive Tax Systems

Both the U.S. federal government and many state governments operate under a progressive income tax system. In this system, higher earners pay a larger percentage of their income in taxes. This structure is implemented through the use of tax brackets, where different portions of an individual’s income are subject to varying tax rates.

Tax brackets define specific income ranges, with each range being taxed at a different rate. For instance, the first portion of an individual’s taxable income might be taxed at 10%, the next portion at 12%, and so on. Only the income falling within a particular bracket is taxed at that bracket’s specific rate, not the entire income. If an individual’s income crosses into a higher tax bracket, only the amount above the previous bracket’s threshold is subject to the higher rate.

The marginal tax rate refers to the tax rate applied to the last dollar of income earned. This rate reflects the percentage of tax paid on any additional income. An individual’s overall tax burden is better represented by their effective tax rate, which is calculated by dividing the total tax paid by their total taxable income. The effective tax rate is always less than or equal to the highest marginal tax rate an individual faces.

Both the federal tax system and state tax systems, such as California’s, are structured progressively. Taxpayers must account for both federal and state income taxes, which operate independently in their progressive application. An individual’s income is subject to federal tax brackets and then separately to state tax brackets, meaning a portion of income can be taxed at different rates by each authority.

How Overtime Affects Your Overall Tax Liability

Overtime wages are treated as regular income for tax purposes; there is no special “overtime tax rate.” When an individual earns overtime pay, these additional earnings are simply added to their total gross income for the year, directly impacting their overall taxable income.

The primary impact of earning overtime is that it can increase an individual’s total annual taxable income. While overtime itself is not taxed at a higher rate, increased earnings can push some of an individual’s income into a higher marginal tax bracket. Only the portion of income that falls into this higher bracket is taxed at the elevated rate, while income earned within lower brackets remains taxed at those lower respective rates.

For example, if an individual’s regular pay keeps them within a lower tax bracket, but significant overtime earnings cause their total income to exceed the threshold for that bracket, the income above the threshold will be taxed at the next higher marginal rate.

State income tax systems, including California’s, also treat overtime income as part of an individual’s total taxable income within their progressive structures. This means additional income from overtime is integrated into state tax calculations, potentially affecting which state tax brackets apply to their highest earnings.

Withholding Versus Actual Tax Due

The perception that overtime is taxed more heavily often stems from how taxes are withheld from paychecks rather than the actual tax liability. Employers are required to withhold income taxes from employee wages throughout the year. This withholding is an estimate of an individual’s annual tax liability, calculated based on information provided on federal Form W-4 and similar state forms.

Payroll systems typically annualize an employee’s earnings from a single pay period to estimate their total annual income. When a large overtime payment significantly increases the earnings for a specific pay period, the payroll system might project a much higher annual income than the employee will actually earn. This projection can lead to a disproportionately large amount of tax being withheld from that particular paycheck. This is a common occurrence because the system assumes the higher pay period is consistent throughout the year.

This higher withholding is merely an estimate, not the final amount of tax due. The actual tax liability for the entire year is determined when an individual files their annual income tax return with the IRS and the relevant state tax authority. At that time, all income, deductions, and credits for the year are accounted for. If more tax was withheld from paychecks than was actually owed, the individual will receive a tax refund.

Therefore, the “missing” money from an overtime paycheck is often due to an increased amount of withholding, not a higher tax rate applied specifically to overtime. The progressive tax rates themselves do not change for overtime pay, but the temporary adjustment in withholding can create the impression of a higher tax burden.