Overtime Implications of Bonus Plans Under the FLSA

Incorporating a bonus payment into the “regular rate” can be a complicated task. Initially, the employer may disregard the bonus in computing the regular hourly rate until such time as the amount of the bonus can be ascertained. Once that amount is ascertained, however, it must be apportioned back over the workweeks of the period during which it may be said to have been earned. The employee must then receive an additional amount of compensation for each workweek that the employee worked overtime during the period equal to one-half of the hourly rate of pay allocable to the bonus for that week multiplied by the number of statutory overtime hours worked during the week. As you can see, this creates a significant administrative burden on the payroll process.

Liability

Employers that violate the FLSA are liable for any unpaid overtime compensation and may be liable for liquidated damages in the amount of double the unpaid overtime compensation. Liquidated damages will be granted unless the employer can demonstrate that it had reasonable grounds for believing that its act of omission was not in violation of the FLSA. An employer may meet this burden by showing that its official attended seminars regarding the FLSA, reviewed the law, and consulted with counsel regarding the specific compliance issue in question. See Pautlitz v. City of Naperville, No. 89C-8855, 1994 U.S. Dist. LEXIS 554, at *2 (N.D. Ill. Jan. 25, 1994).

Bonus Exceptions

Although an employee's “weekly compensation” generally encompasses all remuneration paid by an employer to an employee, including bonus payments, Congress has carved out exceptions for the following types of bonuses: 1) discretionary bonuses; 2) gratuitous bonuses; and 3) profit-sharing bonuses. Test your knowledge of each exception below.

Question 1

As part of its employment policy, an employer offers its employees bonuses as an inducement to achieve certain production and attendance goals. These bonuses were an important part of the wage structure, but their receipt was conditioned upon the financial well-being of the employer. Must the bonuses be included in the employees' regular rates of pay?

Yes. Although the FLSA carves out an exception for discretionary bonuses, to qualify, “both the fact that payment is to be made and the amount of the payment [must be] determined at the sole discretion of the employer'and not pursuant to any prior contract, agreement, or promise.” 29 U.S.C. ' 207(a)(1). Moreover, bonuses paid as an inducement to improve production or attendance fall outside the definition of discretionary bonuses. 29 C.F.R. ' 778.211(c).

In Gonzalez v. McNeil Techs., Inc., the court for the Eastern District of Virginia was presented with circumstances similar to those in the above hypothetical and concluded that conditioning receipt of the payments on the company's performance was not sufficient to transform them into “discretionary” bonuses within the meaning of the statute. No. 1:06cv204, 2007 U.S. Dist. LEXIS 27262, at *15 (E.D. Va. Apr. 11, 2007). Testimony offered by the plaintiffs supported this finding of non-discretion. Id. at *10-11. For example, one employee testified that each October she was told whether she would receive a bonus around Christmas, receipt of which was based on the amount of hours she worked and good attendance. Id. As the Gonzalez court pointed out, the regulations governing discretionary bonuses specifically exclude promised production and attendance bonuses, and, therefore, the payment must be included in the regular rate of pay if and when it is actually paid. Id. at *13; 29 C.F.R. ' 778.211(c).

The opposite result was reached in the recent case of Brown v. Nipper Auto Parts and Supplies, Inc., wherein Thomas Brown sued his former employer for alleged FLSA violations. No. 7:08CV00521, 2009 U.S. Dist. LEXIS 43213 (W.D. Va. May 21, 2009). In addition to his regular salary, Brown received what were termed as “discretionary, quarterly bonuses when the store's sale percentage was higher in a given month than it was in that month for the previous year.” Id. at *5. Defendant Nipper testified that these bonuses were paid under certain conditions, but it never promised beforehand that such bonuses would be paid. Based on this evidence, the court concluded that Nipper had sole discretion over the issuance of the bonuses, and that no reasonable jury could conclude otherwise. Id. at *22. The court therefore granted plaintiff's motion for summary judgment. Id.

Question 2

A city firefighter participates in the city's ordinance-mandated sick leave buy back program, which pays a lump sum in return for any unused sick leave. The city is surprised when it is sued by a group of its firefighters for violating the FLSA based on the city's failure to include such payments in their regular rate calculations for overtime purposes. Did the city violate the FLSA?

Yes. First, this type of bonus program is clearly nondiscretionary. In Action v. City of Columbia (“City of Columbia“), such a program was mandated by a City of Columbia Ordinance. No. 03-4159-CV-NKL, 2004 U.S. Dist. LEXIS 19004, at *8 (W.D. Mo. Sept. 10, 2004). Additionally, the Ordinance stipulated the exact amount of the payment. Id. at *9. For these reasons, the court stated the program was unquestionably nondiscretionary. Id. at *8.

Second, to qualify as a gratuitous bonus, the payment “must be actually a gift or in the nature of a gift.” 29 C.F.R. ' 778.212(b). One purpose of the Columbia sick leave buy back program was to encourage regular attendance. City of Columbia at *15 The court likened the program to a gift given “as a reward for services rendered.” Id. at *16. In both instances, the bonus must be included in the employee's regular rate for purposes of calculating overtime pay. Id. In other words, gift bonuses must be included as remuneration if they are “measured by or dependent on ' efficiency.” Id.

Question 3

An employer orally promises its non-exempt employees that it will pay them a yet-to-be-determined percentage of any profits earned for the fiscal year. At the end of the fiscal year, the employer creates a pool of 5% of its profits and distributes this pool to its non-exempt workers according to their length of service. The employees bring a class action against the employer based on the employer's failure to include the profit-sharing bonuses in their regular rate calculations for overtime pay purposes. Did the employer violate the FLSA?

Yes. In order to qualify for the “profit-sharing” exemption, the profit-sharing plan must be in writing. See 29 C.F.R. '549.1-.2. Moreover, the amounts paid to employees must be determined in accordance with a definite formula or method of calculation specified in the written plan. Id. Thus, the bonus payments should have been included in the employees' regular rate of pay.

Conclusion

In sum, employers who are paying bonuses to non-exempt employees without including such bonuses in their regular rate calculations for overtime pay purposes should have their bonus plans evaluated by legal counsel to ensure that they are compliant with the FLSA. While employers may be able to avoid litigation for many years (and many do), it is just a matter of time until an employee class action attorney comes knocking.

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Employers often overlook the legal implications under the Fair Labor Standards Act (“FLSA”) of paying bonuses to their “non-exempt” employees. Such payments can (and often do) impact overtime pay calculations, leaving well-intentioned employers facing a FLSA class action simply for trying to provide a form of enhanced compensation to their non-exempt employees in the form of a bonus. This article discusses both the general rule that bonus payments must be included in the “regular rate” calculation for overtime purposes, and the three most common exceptions to this general rule. It also tests your knowledge of these rules.

Calculation of Regular Rate

Under the FLSA, non-exempt employees must be compensated for all hours worked in excess of forty per week at a rate no less than time and one-half of the employee's “regular rate.” This regular rate is determined by dividing the weekly compensation, excluding any overtime premiums, by the number of hours the employee worked during the week.

Incorporating a bonus payment into the “regular rate” can be a complicated task. Initially, the employer may disregard the bonus in computing the regular hourly rate until such time as the amount of the bonus can be ascertained. Once that amount is ascertained, however, it must be apportioned back over the workweeks of the period during which it may be said to have been earned. The employee must then receive an additional amount of compensation for each workweek that the employee worked overtime during the period equal to one-half of the hourly rate of pay allocable to the bonus for that week multiplied by the number of statutory overtime hours worked during the week. As you can see, this creates a significant administrative burden on the payroll process.

Liability

Employers that violate the FLSA are liable for any unpaid overtime compensation and may be liable for liquidated damages in the amount of double the unpaid overtime compensation. Liquidated damages will be granted unless the employer can demonstrate that it had reasonable grounds for believing that its act of omission was not in violation of the FLSA. An employer may meet this burden by showing that its official attended seminars regarding the FLSA, reviewed the law, and consulted with counsel regarding the specific compliance issue in question. See Pautlitz v. City of Naperville, No. 89C-8855, 1994 U.S. Dist. LEXIS 554, at *2 (N.D. Ill. Jan. 25, 1994).

Bonus Exceptions

Although an employee's “weekly compensation” generally encompasses all remuneration paid by an employer to an employee, including bonus payments, Congress has carved out exceptions for the following types of bonuses: 1) discretionary bonuses; 2) gratuitous bonuses; and 3) profit-sharing bonuses. Test your knowledge of each exception below.

Question 1

As part of its employment policy, an employer offers its employees bonuses as an inducement to achieve certain production and attendance goals. These bonuses were an important part of the wage structure, but their receipt was conditioned upon the financial well-being of the employer. Must the bonuses be included in the employees' regular rates of pay?

Yes. Although the FLSA carves out an exception for discretionary bonuses, to qualify, “both the fact that payment is to be made and the amount of the payment [must be] determined at the sole discretion of the employer'and not pursuant to any prior contract, agreement, or promise.” 29 U.S.C. ' 207(a)(1). Moreover, bonuses paid as an inducement to improve production or attendance fall outside the definition of discretionary bonuses. 29 C.F.R. ' 778.211(c).

In Gonzalez v. McNeil Techs., Inc., the court for the Eastern District of Virginia was presented with circumstances similar to those in the above hypothetical and concluded that conditioning receipt of the payments on the company's performance was not sufficient to transform them into “discretionary” bonuses within the meaning of the statute. No. 1:06cv204, 2007 U.S. Dist. LEXIS 27262, at *15 (E.D. Va. Apr. 11, 2007). Testimony offered by the plaintiffs supported this finding of non-discretion. Id. at *10-11. For example, one employee testified that each October she was told whether she would receive a bonus around Christmas, receipt of which was based on the amount of hours she worked and good attendance. Id. As the Gonzalez court pointed out, the regulations governing discretionary bonuses specifically exclude promised production and attendance bonuses, and, therefore, the payment must be included in the regular rate of pay if and when it is actually paid. Id. at *13; 29 C.F.R. ' 778.211(c).

The opposite result was reached in the recent case of Brown v. Nipper Auto Parts and Supplies, Inc., wherein Thomas Brown sued his former employer for alleged FLSA violations. No. 7:08CV00521, 2009 U.S. Dist. LEXIS 43213 (W.D. Va. May 21, 2009). In addition to his regular salary, Brown received what were termed as “discretionary, quarterly bonuses when the store's sale percentage was higher in a given month than it was in that month for the previous year.” Id. at *5. Defendant Nipper testified that these bonuses were paid under certain conditions, but it never promised beforehand that such bonuses would be paid. Based on this evidence, the court concluded that Nipper had sole discretion over the issuance of the bonuses, and that no reasonable jury could conclude otherwise. Id. at *22. The court therefore granted plaintiff's motion for summary judgment. Id.

Question 2

A city firefighter participates in the city's ordinance-mandated sick leave buy back program, which pays a lump sum in return for any unused sick leave. The city is surprised when it is sued by a group of its firefighters for violating the FLSA based on the city's failure to include such payments in their regular rate calculations for overtime purposes. Did the city violate the FLSA?

Yes. First, this type of bonus program is clearly nondiscretionary. In Action v. City of Columbia (“City of Columbia“), such a program was mandated by a City of Columbia Ordinance. No. 03-4159-CV-NKL, 2004 U.S. Dist. LEXIS 19004, at *8 (W.D. Mo. Sept. 10, 2004). Additionally, the Ordinance stipulated the exact amount of the payment. Id. at *9. For these reasons, the court stated the program was unquestionably nondiscretionary. Id. at *8.

Second, to qualify as a gratuitous bonus, the payment “must be actually a gift or in the nature of a gift.” 29 C.F.R. ' 778.212(b). One purpose of the Columbia sick leave buy back program was to encourage regular attendance. City of Columbia at *15 The court likened the program to a gift given “as a reward for services rendered.” Id. at *16. In both instances, the bonus must be included in the employee's regular rate for purposes of calculating overtime pay. Id. In other words, gift bonuses must be included as remuneration if they are “measured by or dependent on ' efficiency.” Id.

Question 3

An employer orally promises its non-exempt employees that it will pay them a yet-to-be-determined percentage of any profits earned for the fiscal year. At the end of the fiscal year, the employer creates a pool of 5% of its profits and distributes this pool to its non-exempt workers according to their length of service. The employees bring a class action against the employer based on the employer's failure to include the profit-sharing bonuses in their regular rate calculations for overtime pay purposes. Did the employer violate the FLSA?

Yes. In order to qualify for the “profit-sharing” exemption, the profit-sharing plan must be in writing. See 29 C.F.R. '549.1-.2. Moreover, the amounts paid to employees must be determined in accordance with a definite formula or method of calculation specified in the written plan. Id. Thus, the bonus payments should have been included in the employees' regular rate of pay.

Conclusion

In sum, employers who are paying bonuses to non-exempt employees without including such bonuses in their regular rate calculations for overtime pay purposes should have their bonus plans evaluated by legal counsel to ensure that they are compliant with the FLSA. While employers may be able to avoid litigation for many years (and many do), it is just a matter of time until an employee class action attorney comes knocking.

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