New Overtime Pay Rules: How to Adjust

The U.S. Department of Labor recently decided to more than double the minimum weekly salary threshold under which salaried workers are eligible for overtime pay when they work more than 40 hours in a week. The change will take effect on Dec. 1 of this year, so companies should start preparing now.

Andrew Volin

That threshold will rise to $913 per week, or about $47,500 annually. The current threshold is $455 per week, or about $24,000 per year.

The change may lead to a further increase in wage and hour lawsuits, which have already risen dramatically in recent years. They are often brought by groups of employees rather than individuals. Double damages and attorney’s fees are available for claims under the Fair Labor Standards Act (FLSA), which provides for the overtime exemption, and defense costs are significant as well. Often, these costs exceed the amount of wages in dispute.

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What Workers Are Affected?

The first thing employers should do is determine what workers are affected by the new regulation. This group primarily includes those who perform exempt duties — i.e., executive, administrative, and professional employees — and currently earn between the old minimum and the new minimum.

The new regulations did not change the duties requirements for the exemptions from the FLSA’s overtime-pay provisions. Briefly stated, “executives” must be in charge of part of a business and supervise at least two full-time workers. “Administrative” workers perform duties related to the management or general business operations using discretion and independent judgment. “Professionals” are divided into either learned (highly educated) or creative (artistic) sub-groups.

In addition, there is a second set of “highly compensated employee” exemptions for white-collar workers who earn at least $100,000 annually. These are employees who perform duties that may not strictly meet all of the requirements for an executive, administrative, or professional exemption, but are so close that the employer worries that it may lose a dispute, if one came to pass.

The new regulations increase that annual requirement for such workers to more than $134,000.

Employers must also consider, however, workers who earn slightly more than the new minimum. There are several reasons for this. One is the ripple effect from compensation changes. If one worker’s compensation is increased because of these new regulations, the employer may also want to adjust the compensation of people earning slightly more.

Also, the new regulations provide for automatic increases in the earnings threshold every three years. The increases will be based on statistics on compensation for salaried workers. For example, the minimum salary will be based on the 40^th percentile in the lowest-wage region in the United States. The annual earning threshold for highly compensated employees will be based on the 90^th percentile nationally.

Planning must take the future changes into account as well. Companies may want to switch their normal annual compensation changes to coincide with the Dec. 1 dates of the periodic automatic increases in the exemption threshold.

How Should Compensation Be Adjusted?

Companies must decide how to adjust compensation for the affected workers. Of course, total compensation can include a discussion of benefits, but just in terms of pay, employers may have at least five options for most white-collar workers. In summary, they are:

1. Increase the salary level to maintain the exemption. For most companies, only a lucky few should expect this outright raise.
2. Convert the salaried worker to an hourly worker, at a rate determined by dividing the current salary by 40 hours. If these employees work overtime, their overall compensation will rise. Accurate records of time worked are necessary to determine total compensation, for this option as well as the remaining ones.
3. Convert the worker to hourly, at a rate determined by dividing the current salary by total hours worked. This is more complex, but on the plus side it might result in no net change in compensation. For example, say Andy has been working 50 hours per week and paid $40,000 a year. Do the math: The hourly rate works out to $14.54, so for 40 hours at straight time, Andy gets $582 per week. The 10 hours of overtime, at time-and-a-half pay, brings him $218, for a weekly total of $800. Fifty of those weeks per year equal $40,000.
4. Convert the worker from salaried exempt to salaried non-exempt. Companies will pay overtime after 40 hours but will have to pay for 40 hours even for weeks when the worker puts in less than 40 hours. This option would be useful for workers who have a consistent number of overtime hours each week.
5. For some workers, consider whether to use a “fluctuating work week” salary. In this situation, the weekly salary is for all hours worked, including overtime hours, except that a worker receives an extra half-hour’s worth of pay — rather than time-and-a-half — for each hour worked over 40.

One new aspect of compensation involves non-discretionary bonuses and commissions. The regulations permit employers to count these toward up to 10% of the new minimum salary amount. However, there are special rules about this as well.

What Risks Are Involved?

As suggested above, companies must accurately record all time worked by workers who are moving from exempt to non-exempt. This requires a system that includes developing and training all hourly workers on time tracking, including work that might be performed outside normal business hours and off premises. For example, responding to email and phone calls or messages counts as time worked under the FLSA. In some situations, being on call, or traveling, also counts as time worked.

In addition to having robust tracking systems, companies should implement measures by which both workers and the company can verify hours worked. This is needed to minimize disputes. An internal complaint mechanism is also necessary. A model can be the current requirements for complaint mechanisms under a variety of employment laws, such as harassment.

Also, management should expect that these new requirements, and the changes that will be necessary, will contribute to discussion among workers about the changes and how the changes impact them. Federal and state laws permit employees to discuss terms and conditions of employment, including compensation.

Therefore, communication strategies must be considered to minimize morale problems (or worse) arising as a result of, for example, workers being moved from salaried to hourly positions. Many people attach great importance to their status as salaried exempt workers.

In addition, depending on the new hourly approach used, formerly exempt workers who worked long hours (for example, 60 hours a week) may be quite surprised to learn their new hourly rate is lower than they expected.

Also, as workers compare notes with each other about their old and new compensation, there is a risk that people in protected classes (race, color, religion, national origin, gender, age, disability, etc.) may conclude that their pay is unfair or discriminatory.

These changes therefore present management an opportunity to review all their company’s payroll practices to minimize existing risk as well as future risk. Now is the time to plan for these changes.

Andrew Volin is a partner at the law firm Sherman & Howard. He advises companies in disputes involving employment discrimination, wrongful discharge, and wage and hour law.