Seasons of Change: A Practical Look at Exempt-Status Reclassification

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It's not just the autumn winds and unruly leaf piles we have to look forward to. As sure as death, taxes, and pumpkin spice everything, new compliance challenges are on their way. On December 1, 2016, the new minimum salary requirement for most of the Fair Labor Standards Act's (FLSA) "white collar" overtime exemptions goes into effect.

While the changes are easy enough to comprehend, achieving compliance while minimizing cost and disruption to your business requires a clear-eyed look at the realities of your workplace (both physical and virtual, as the case may be), and a measured consideration of your options for paying overtime to reclassified employees.

Here's a refresher on the key changes: the minimum salary for affected exemptions will increase to $913 per week, or $47,476 per year—about twice the current minimum ($455/$23,660). Additionally, the minimum salary for the "highly compensated" employee exemption bumps up to $134,000 annually. The final regulations also allow employers to use certain bonus and incentive payments to account for up to 10% of the new salary level, and contain a mechanism for updating the minimum salary every three years. Notably, the duties tests for the white collar exemptions remain unchanged, and the new regulations have no effect on other FLSA exemptions, such as the Motor Carrier exemption and Retail Sales and Service exemption.

When it comes to otherwise exempt employees (i.e., those who fulfill the duties requirement and are paid on a "salary basis") who meet the new salary threshold, it's business as usual on and after December 1st.

But what about employees who will transition from exempt to non-exempt status? Obviously, they will be entitled to overtime premiums for hours worked over 40 in a week. The simplest way to comply is to pay an hourly wage plus time-and-one-half (150%) of the employee's regular rate (total weekly compensation divided by hours worked) for each hour over 40. But that's not the only option, and it may not be the right one for your business and your employees. Depending on the circumstances, choices may include continuing to pay the same salary and limiting hours to 40 or fewer per week, paying a salary for the first 40 hours plus time-and-a-half for hours over 40, or, for employees whose fluctuate from workweek to workweek, paying a fixed salary regardless of the number of hours worked, plus half-time (50%) for each hour over 40.

Before evaluating those options, however, it's critical to recognize a key ramification of moving an employee from exempt to non-exempt status: You must track all of their hours worked. The FLSA affirmatively requires that employers keep detailed pay records for non-exempt employees—even if they do not work overtime. Moreover, under any method of paying overtime, you must know the number of hours worked to calculate overtime premiums properly.

For employees that perform all of their work on-site, tracking hours may be as simple as having them clock in and out. In many cases, however, formerly exempt employees perform considerable amounts of work off-site and outside of regular business hours. Potentially compensable hours include on-call periods, travel time, off-site meetings, and taking calls or answering emails before or after the standard workday. While employers may maintain policies forbidding or limiting non-exempt employees from working overtime hours (and may discipline employees for violating such policies), all compensable hours must be tracked and taken into account when calculating weekly overtime premiums. Failing to do so may result in records-keeping violations and liability for back-pay, liquidated penalties, and attorney's fees and court costs. Consequently, whether or not you allow non-exempt employees to work offsite and/or outside of regular business hours, it is critical to have clear policies on timekeeping, and reliable tracking methods.

Turning back to overtime payment options, the amount and fluctuation of overtime worked (including those pesky offsite hours) are key considerations in determining the optimal method of payment. Another important factor is how affected employees will perceive changes to their compensation structure. Although a change in overtime-exempt status may not entail a reduction in their bottom line, employees often perceive a shift from salary to hourly pay as a downgrade in status.

With these factors in mind, options for addressing overtime obligations include the following:

-Pay an hourly wage plus time-and-a-half for each hour over 40 in a workweek.

-Pay a fixed salary for the first 40 hours in a workweek, plus time-and-a-half for each hour over 40. Assuming that no additional form of compensation is paid, overtime premiums are calculated by dividing the weekly salary by 40 and paying time-and-a-half for each overtime hour. This is effectively the same as paying an hourly rate plus time-and-a-half, but employees are less likely to perceive it as change in status, particularly if they work little overtime.

-Pay a fixed salary and limit hours worked to fewer than 40 per workweek. As far as the FLSA is concerned, so long as currently salaried-exempt employees work fewer than 40 hours per week and receive at least minimum wage for each hour worked in each workweek (in most cases the FLSA does not allow averaging over multiple workweeks), no changes to their compensation structure are necessary. Notably, this path does not require a rigid daily schedule—the bottom line is the total hours worked in each workweek.

-Pay a fixed salary for fluctuating hours. If certain conditions are met, the FLSA regulations allow employers to pay a fixed salary regardless of hours worked, plus a half-time overtime premium for each hour over 40. The basic requirements of using this method (which should be reviewed with counsel before implementation) include the following: (1) a clear understanding between employer and employee (which should be in writing) that this payment method will be used; (2) the same salary must be paid each week regardless of the number of hours worked; (3) weekly hours must actually fluctuate; and (4) the average hourly "straight time" rate (weekly salary divided by hours worked) must never fall below the required minimum wage. From a cost perspective, this method may prove advantageous for employers, as the half-time overtime premium shrinks as more hours are worked.

A final word of caution:  This article focuses entirely on the requirements of the FLSA. Various states and/or municipalities may provide for higher minimum salaries, more stringent duties tests, and/or a more limited set of overtime exemptions. While the FLSA sets the floor for overtime compliance, states and municipalities (where allowed by state law) are free to institute tougher standards that result in fewer employees qualifying as overtime-exempt. Check with labor and employment counsel to ensure that you are taking all applicable overtime standards into account. 

For more information about FLSA and the new "white collar" overtime rules, contact Manolis Boulukos or a member of Ice Miller’s Labor, Employment and Immigration group.

This publication is intended for general information purposes only and does not and is not intended to constitute legal advice. The reader should consult with legal counsel to determine how laws or decisions discussed herein apply to the reader’s specific circumstances.

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