Overtime Pay Morass: FLSA Overhaul to Take Effect on Dec. 1

The new FLSA regulations are in response to President Barack Obama's efforts to promote what is deemed fair compensation for workers as initially presented by the White House in a 2014 Presidential Memorandum. The president instructed the DOL to define more accurately which white-collar workers are protected by the FLSA minimum wage and overtime standards, and to make the thresholds for various classifications more realistic. The DOL's new regulations will change the white-collar exemptions for administrative, executive and professional workers for the first time in over a decade.

The DOL estimates that its new Final Rule will automatically extend overtime pay benefits to approximately 35% of full-time salaried workers within the first year of implementation. At the same time, employer wage obligations are expected to rise significantly.

Present Regulations

The Fair Labor Standards Act, 29 U.S.C. § 201, originally gave most hourly and salaried workers the right to overtime pay. But some white-collar workers were exempted from the overtime pay requirement based on their salaries and duties. This exemption was intended for workers who had better benefits, more secure jobs, more opportunities for advancement, and generally higher pay. Since the 1970s, however, the salary threshold was updated just once in 2004, and even then to a controversially low level.

The DOL argues that the present threshold is eroded by inflation every year. Approximately 7% of full-time salaried workers are provided overtime protections based on salary, compared with 62% in 1975. As per the 2004 amendment, white-collar workers earning more than $455 per week or $23,660 per year, which is presently below the designated poverty line for a family of four, do not automatically qualify for overtime pay — but may be eligible through other means.

From the corporate employer perspective, the current law presents a three-prong test that requires each element to be met in order to qualify for the white-collar overtime exemption (i.e., not to be eligible for overtime pay). First is the salary basis test. The worker must be paid a fixed salary on a regular basis. The amount must be static and cannot vary based on quality of work. Second, there is the minimum salary mount test. Employees must earn at least the minimum annual salary of $23,660 per annum. The third prong for standard employees is the slightly more ambiguous job duties test. Employees must primarily perform certain administrative, executive or professional tasks which vary depending on the particular employment.

In contrast, on the other side of the equation, highly compensated employees (those earning above $100,000 per annum in fixed salary), are generally not eligible for overtime compensation. For those earning $100,000 a year in fixed salary, a different, less stringent, minimal duties test is applicable. In those cases, the employee's primary duties must consist of non-manual or office work involving one of the enumerated exempt duties of an exempt executive, administrator or professional employee. Thereby, a highly compensated employee may be exempt even if he or she would not qualify as exempt under the standard three-prong test.

New Rules

The salary basis test, as stated in http://bit.ly/2eivWR1, will be upwardly adjusted in favor of employers. The 2016 Final Rule will permit employers to use nondiscretionary bonuses, incentive payments and commissions to comprise up to 10% of the requisite monetary threshold, which previously could only be calculated by fixed salary. These payments must be made at least on a quarterly basis to satisfy the new rules. In so doing, the DOL has attempted to recognize the importance of these types of compensation for many affected managerial employees at many companies.

The most significant revisions, however, favor employees by changing the minimum salary test. Effective Dec. 1, 2016, employees paid less than $47,476 per year or $913 per week will be entitled to overtime pay, more than doubling the current minimum salary — irrespective of job duties. The salary level is set at the 40th percentile of earnings of full-time salaried workers in the lowest-wage Census Region, which is currently the South.

The salary level for highly compensated employees remains anchored to the national full-time salaried workers' 90th percentile, which is now $134,004 (increased from $100,000). Additionally, highly compensated employees must now also satisfy the minimum weekly compensation of $913. The DOL also estimates that the highly compensated employee minimum salary will be $147,524 in 2020.

The minimum salary level will be readjusted to the 40th percentile of earnings of full-time salaried workers in the lowest-wage Census Region every three years beginning on Jan. 1, 2020, based on the updated cost of living. This will ensure that the FLSA continues to provide useful, up-to-date tests for exemption. The Department of Labor estimates that the minimum yearly salary will be set at $51,168 in 2020. The new levels will be announced on Aug. 1 of each prior year so companies may have reasonable time to comply.

Implications

The Administration has promoted this change as a significant measure to assist the working class without having to undergo lengthy and potentially contentious congressional debate. “The middle class is getting clobbered,” Vice President Joe Biden told reporters. “If you work overtime, you should actually get paid for working overtime. … For the past 40 years, overtime protections have been increasingly weakened.” Biden also emphasized that more than 60% of salaried workers qualified for overtime in 1975, but only 7% do today. In addition, on June 23, 2016, the House Small Business Committee convened with small business owners who expressed concern over the changes to the FLSA and repeated the DOL's assessments of benefits to employees in general in contrast to the perceived “minor” inconvenience to employers.

The DOL anticipates many benefits for workers. The department argues that in addition to increasing earnings for the middle class, the new rules may improve workers' health and work-life balance by giving employers a monetary incentive to reduce the number of hours worked. Productivity may increase through improved morale and reduced worker turnover. Moreover, the new measures have the potential to increase employment by spreading work. Work presently completed in overtime hours may be redistributed to new hires or more hours may be given to part-time workers.

Further, the regulation will strengthen overtime protections for workers. Economists retained by the DOL predict that base wages may indeed decrease initially but the temporary decrease will be readjusted quickly; over time the amount of higher overtime payments will be greater than the decrease in base wages, even if the period of adjustment lasts longer than just a short temporary correction.

Opponents of the 2016 Final Rule measures note that many employers and human resources departments will have to implement new complicated systems for timekeeping. Some small business managers will be shifted to hourly status from salaried status and be forced to keep time sheets. This may have an effect on workplace morale and consequently productivity as some employees feel demeaned.

Similarly, the National Association of Federal Credit Unions is concerned that the rule does not adequately factor salary differences in different regions of the country. It also noted that the FLSA does not take into account conferences and training events. “This is an extreme revision in the white-collar threshold,” said David French of the National Retail Federation. “By executive fiat, the Department of Labor is effectively demoting millions of workers.” Many Republican lawmakers have already declared their intent to institute congressional blocking mechanisms to stop the DOL's 2016 FLSA implementation.

Lawsuits

Two significant lawsuits have just been filed against the DOL. In the first, 21 states (by their respective Attorneys General), raise challenges to the 2016 Final Rule under the Administrative Procedure Act and the Tenth Amendment. States of Nevada et al. v. U.S. Dept. of Labor et al., 16-cv-00407 (ED TX, Sept. 20, 2016); Plano Chamber of Commerce et al v. Perez et al., 16-cv-00732 (ED TX Sept. 20, 2016). The states argue that the DOL has over-emphasized the salary number rather than the nature of work as mandated by Congress and has promulgated the FLSA in violation of mandated congressional review. Finally, the states argue that the final rule violates the Tenth Amendment because:

States must pay overtime to State employees that are performing executive, administrative, or professional functions if the State employees earn a salary less than an amount determined by the Executive Branch of the Federal Government. And there is apparently no ceiling over which DOL cannot set the salary level. The threat to the States' budgets and, consequently, the system of federalism, is palpable … by committing an ever-increasing amount of State funds to paying State employee salaries or overtime, [the federal executive] can unilaterally deplete State resources, forcing the States to adopt or acquiesce to federal policies, instead of implementing State policies and priorities.

States of Nevada et al v. U.S. Dept. of Labor et al., 16-cv-00407, at p.3 (ED TX, Sept. 20, 2016)

A second lawsuit was filed by the U.S. Chamber of Commerce along with a broad coalition of trade associations and business groups. That action focuses more on the question of whether the DOL implementation violated due process rights under the Administrative Procedure Act.

Conclusion

The 2016 Final Rule presents several challenges to employers. Employers will have to conduct comprehensive workforce audits and institute new timekeeping mechanisms. Aside from the actual specifics of the 2016 FLSA, the mere act of complying with the Final Rule will prove complicated and burdensome. Regulatory familiarization costs, adjustment costs and managerial costs are estimated by the DOL to total approximately $295 million per annum for each of the next 10 years.

The DOL estimates that presently, approximately 80% of companies are not in compliance with current FLSA regulations. With more publicity concerning the new regulations, employees will be more likely to question their employment status. Companies, particularly large ones, will be especially vulnerable to class-action lawsuits with high litigation costs filed by employees who are newly classified as non-exempt. Failure to comply with the 2016 Final Rule will result in high expenses for the employer. The statutory costs of non-compliance includes payment of unpaid overtime wages for up to three years, which is then doubled as damages, plus legal fees.

On the other hand, it is certainly troubling that at present, many employees living below the present poverty line cannot qualify for overtime pay. There can be no doubt that with continued inflation the number of such employees will increase.

It is equally understandable that President Obama seeks to make good on one of his pledges before his term of office expires. But the minimum salary threshold increase is simply too large to be implemented all at once. While the intentions are undoubtedly virtuous, to increase income for the middle class, the new FLSA regulations pose problems to businesses that employers may have difficulty overcoming in such a short period of time in order to be in compliance by the Dec. 1 deadline. With over four million workers expected to be affected, the extensive review of employee classifications and compensation agreements will take a significant amount of time.

The debate of which economic theory will prevail may rage on, but it has been an inescapable truth in the past that when faced with hard choices corporations do not always operate logically as they seek to cut costs. That illogic may not benefit anyone.

***** Chaim A. Levin is the Americas General Counsel of the Tradition Group. Tyler Lee, a research assistant with the firm, assisted in the preparation of this article, which also appeared in The New York Law Journal, an ALM sibling publication of this newsletter.