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Exempt Or Non-Exempt: Amended Regulations Interpreting the Fair Labor Standards Act Take Effect

Introduction

Recently, on August 23, 2004, revised regulations promulgated by the U.S. Department of Labor (“DOL”) interpreting the overtime provisions of the Fair Labor Standard Act (“FLSA”) went into effect. The FLSA is a federal law that governs minimum wage and overtime pay requirements, as well as recordkeeping and child labor standards for most full-time and part-time workers in the private and public sectors. Generally, under the FLSA, non-exempt employees must be paid overtime at one and one-half times their regular rate of pay for each hour worked in excess of 40 hours in a workweek. Exempt employees are not entitled to overtime pay protection under the FLSA. This article will discuss the DOL’s recent amendments to the regulations interpreting and enforcing the FLSA.

The amended regulations change the rules interpreting the so called “white collar” exemptions under the FLSA. Past regulatory attempts by the DOL to define these exemptions have resulted in an often confounding labyrinth of complicated and confusing rules. As the DOL has acknowledged, the prior regulations interpreting FLSA’s white collar exemptions, which had not been comprehensively revised since 1949, were often too complicated and out-of-touch with today’s labor market:

Under the [old] regulations, an employee earning only $8,060 per year [could] be classified as an “executive” and denied overtime pay. By comparison, a minimum wage employee earns about $10,700 per year. The [former] duties tests are so confusing, complex and outdated that often employment lawyers, and even Wage and Hour Division investigators, ha[d] difficulty determining whether employees qualify for the exemption. The [former] regulations are very difficult for the average worker or small business owner to understand. The [former] regulations discuss jobs like key punch operators, legmen, straw bosses and gang leaders that no longer exist, while providing little guidance for jobs of the 21st Century.1

Highlights of the amendments include the following: 1) the minimum salary level necessary to qualify for a white collar exemption has been raised from $155 ($8,060 annually) to $455 ($23,660 annually) per week; 2) the old, often confusing “short” and “long” tests for the white collar exemptions have been eliminated in favor of a single streamlined “duties” test; 3) all “blue collar” and manual workers are automatically deemed eligible for overtime pay, regardless of pay or salary; 4) a new “highly compensated employee” exemption has been added for employees earning at least $100,000; and 5) a new “safe harbor” provision that protects employers from non-willful violations of the FLSA.

Although it is a common misconception that all salaried workers are exempt and therefore not entitled to overtime pay, in fact, an employer must pay a salaried worker overtime pay unless the employee qualifies for one of the white collar exemptions. The white collar exemptions are derived from section 13(a)(1) of the FLSA, which applies to workers who are employed in a bona fide:

  • Executive;
  • Administrative; or
  • Professional capacity.

In addition, certain outside sales and computer employees may be exempt from the overtime requirements under the FLSA.

Three tests are used to determine exempt status. These three tests are:

1) the salary level test; 2) the salary basis test; and 3) the job duties test. Each of these tests has been updated and clarified by the new regulations.

The New Salary Level Test

Under the new salary level test, the minimum salary required for an exemption to apply has been raised from $155 per week ($8,060 annually) to $455 per week ($23,660 annually).2 As a general rule, therefore, any employee earning less than $455 per week ($23,660 annually) will now be eligible for overtime, regardless of title or position.

The New Salary Basis Test

In addition, for a white collar exemption to apply, the employee must be paid on a “salary basis.” This means that the employee must regularly receive a predetermined amount of compensation each pay period (on a weekly or less frequent basis); the compensation cannot be reduced because of variations in the quality or quantity of the work performed; and the employee must be paid the full salary for any week in which the employee performs any work.3

Because an overtime exemption may be lost and substantial employer liability may result if an improper deduction is made from an employee’s pay, an employer must ensure that its pay practices satisfy the salary basis test for all exempt employees. The new rules provide guidance regarding the circumstances under which deductions can be made without forfeiting the exempt status of an employee. For example, under the new rules, employers are now permitted to impose unpaid disciplinary suspensions of one or more full days for violations of “workplace conduct rules” — such as sexual harassment, drug and alcohol policies, and violence in the workplace — provided the suspensions are pursuant to a written workplace policy applicable to all employees. Previously, such suspensions could not be imposed for less than a week. Further, the new rules provide that partial-day deductions are permissible for 1) infractions of safety rules of “major significance”; 2) unpaid leave under the Family Medical Leave Act (“FMLA”); 3) in the first and last weeks of employment; and 4) for certain public employees pursuant to “principles of public accountability,” provided certain additional requirements are met.

Significantly, the new salary basis test also creates a new “safe harbor” provision for employers, under which an employer may avoid liability for improper deductions if:

(a) the employer has a clearly communicated policy prohibiting improper deductions, including a complaint mechanism;

(b) reimburses employees for any improper deductions; and

(c) makes a good faith commitment to comply in the future.

The DOL has published a model policy for employers to help ensure compliance with the “salary basis” test.4 According to the DOL, the best evidence of a “clearly communicated policy” is a written policy distributed to employees prior to any improper deduction being made. The DOL’s standard could be satisfied by including the policy in an employee handbook, signed by employees upon hire, as well as by posting the policy in employee frequented areas in the workplace.

The new “safe harbor” provision, however, will not insulate an employer from liability for willful violations of the FLSA. Repeated failures to comply with the FLSA may provide evidence of willfulness and thus remove the “safe harbor”. Penalties for violation of the FLSA can be substantial and can include:

1) liability for unpaid overtime, plus interest; 2) liability for reasonable attorney’s fees; and 3) at the court’s discretion, an additional amount equal to unlawfully withheld overtime as liquidated damages for willful violations. Criminal penalties also may be imposed against any person who willfully violates the FLSA, including up to a $10,000 fine or 6 months imprisonment, or both.

The New Job Duties Test

In order for a position to be exempt from the FLSA’s overtime requirements, the position must satisfy newly reconstituted job duties tests in addition to the amended salary level and salary basis tests described above. Thenew job duties tests seek to clarify the former confusing rules surrounding the white collar exemptions.5 The determination of whether a white collar exemption applies is now, in part, dictated by an employee’s “primary duty” in the workplace. The new rules define an employee’s “primary duty” as the principal, main, major or most important duty that the employee performs. Unlike the old rules, the percentage of time spent on exempt duties versus non-exempt duties is instructive for purposes of fulfilling exemption requirements, but not determinative. Identifying an employee’s primary duty, requires a detailed, fact specific analysis of the functions performed by a particular employee.

The Executive Exemption6

Under the new regulations, in addition to satisfying the salary level and salary basis tests, in order to qualify for the executive employee exemption, an employer must ensure that the employee satisfies all of the following requirements:

1) The employee’s primary duty must be managing the enterprise, or managing a customarily recognized department or subdivision of the enterprise;

2) The employee must customarily and regularly direct the work of at least two or more other full-time employees or their equivalent; and

3) The employee must have the authority to hire or fire other employees, or the employee’s suggestions and recommendations as to the hiring, firing, advancement, promotion or any other change of status of other employees must be given particular weight.

To determine whether an employee’s suggestions are given particular weight, the following factors will be considered:

a) Are the employee’s recommendations part of the employee’s regular job function?

b) How frequently are the employee’s recommendations made?

c) How frequently are the employee’s recommendations implemented?

The Administrative Exemption7

Under the new regulations, in addition to satisfying the salary level and salary basis tests, in order to qualify for the administrative employee exemption, an employer must ensure that the employee satisfies all of the following requirements:

1) The employee’s primary duty must be the performance of office or non-manual work directly related to the management or general business operations of the employer or the employer’s customers; and

2) The employee’s primary duty includes the exercise of discretion and independent judgment with respect to matters of significance.

The new rules provide a ten factor test to aid in the determination of whether an employee is exercising discretion and independent judgment. Because no single factor is determinative, an analysis of all the facts and circumstances is required. The ten factors are:

  • Whether the employee has authority to formulate, affect, interpret, or implement management policies or operating principles;
  • Whether the employee carries out major assignments in conducting the operations of the business;
  • Whether the employee performs work that affects business operations to a substantial degree, even if the employee’s assignments are related to the operation of a particular segment of the business;
  • Whether the employee has authority to commit the employer in matters that have significant financial impact;
  • Whether the employee has authority to waive or deviate from established policies and procedures without prior approval;
  • Whether the employee has authority to negotiate and bind the company on significant matters;
  • Whether the employee provides consultation or expert advise to management;
  • Whether the employee is involved in planning long or short-term business objectives;
  • Whether the employee investigates and resolves matters of significance on behalf of management; and
  • Whether the employee represents the company in handling complaints, arbitrating disputes or resolving grievances.

The Professional Exemption8

The professional exemption is actually comprised of two separate exemptions: the learned professional exemption and the creative professional exemption. Under the new regulations, in addition to satisfying the salary level and salary basis tests, in order to qualify for the learned professional employee exemption, an employer must ensure that the exempt employee satisfies all of the following requirements:9

1) the employee’s primary duty must be the performance of work requiring advanced knowledge, defined as work which is predominantly intellectual in character and which includes work requiring the consistent exercise of discretion and judgment;

2) the advanced knowledge must be in a field of science or learning; and

3) the advanced knowledge must be customarily acquired by a prolonged course of specialized intellectual instruction.

Under the new regulations, in order to qualify for the creative professional employee exemption, in addition to satisfying the salary level and salary basis tests, an employer must ensure that the exempt employee’s primary duty must be the performance of work requiring invention, imagination, originality or talent in a recognized field of artistic or creative endeavor.

Highly Compensated Employees10

The amended regulations create a new test resulting in exempt status for certain highly compensated employees. Highly compensated employees performing office or non-manual work and paid total annual compensation of $100,000 or more (which must include at least $455 per week paid on a salary or fee basis) are exempt from the FLSA if they customarily and regularly perform at least one of the duties of an exempt executive, administrative or professional employee identified in the standard tests for exemption. Total compensation that will satisfy the $100,000 test for a highly compensated employee includes:

  • Commissions
  • Nondiscretionary bonuses
  • Other nondiscretionary compensation earned during a 52-week period

Total compensation does not include:

  • Credit for board, lodging, or other facilities
  • Payments for medical or life insurance
  • Contributions to retirement plans or fringe benefits

The DOL estimates that approximately 107,000 workers who now earn more than $100,000 a year have lost overtime protection under the revised rules due to the new highly compensated test.

Blue Collar Workers

The new amendments make clear that the FLSA overtime exemptions do not apply to manual laborers or other “blue collar” workers who perform work involving repetitive operations with their hands, physical skill and energy regardless of the level of their compensation.11 Additionally, non-management employees in production, maintenance, construction and similar occupations such as carpenters, electricians, mechanics, plumbers, iron workers, craftsmen, operating engineers, longshoremen, construction workers and laborers are entitled to overtime premium pay under the FLSA and are not exempt under the regulations no matter how highly paid.

Police, Fire Fighters, Paramedics & Other First Responders

The recent amendments also provide that police officers, fire fighters, paramedics, and other first responders, regardless of rank or pay level, performing work traditionally associated with these occupations, cannot be exempted from the FLSA overtime requirements.12

Impact of Regulations

The DOL has concluded that the new rules guarantee overtime pay protection for virtually all workers earning less than $455 per week. Because of the increased salary level required for exempt status and clearer duties tests, the DOL estimates that overtime pay protection has been strengthened for more than 6.7 million salaried workers.

The DOL estimates that its revisions will strengthen overtime protection for millions of low-wage and middle-class workers, while reducing litigation costs for employers who are frequently forced to litigate claims involving the failure to pay overtime. The DOL predicts the new rules will help employees better understand and assert their rights to overtime pay and enable employers to more easily determine and carry out their compliance obligations. The DOL estimates that the total first-year implementation costs to employers will be $738.5 million dollars, of which $627.1 million will be incurred to review the regulations and implement new policies, and $111.4 million will be incurred in conducting job reviews to ensure compliance. However, the DOL estimates savings of $252.2 million a year to employers who will now avoid violations of the FLSA that were previously caused by the complexity of the former rules.

While the new rules eliminate some previous sources of confusion, they are hardly a model of clarity. The true impact of these rules remains to be seen.

What Employers Should Do

To the extent that employers have not already done so, employers should conduct an immediate comprehensive review of all pay practices relevant to the FLSA and its interpretive regulations. Employers should review and revise job descriptions to properly and accurately classify employees. Also, employers should review and revise employee handbooks and policy manuals to comply with the new exemptions and take advantage of the new “safe harbor” rules. In cases where an exemption will be lost due to the increase of the salary level from $155 to $455 per week, employers should consider making adjustments to salaries, where appropriate, to preserve the exemptions. In all events, employers must examine their present pay practices to ensure future compliance.

  1. 29 CFR Part 541, Defining and Delimiting the Exemptions for Executive, Administrative, Professional, Outside Sales and Computer Employees, Final Rule, Preamble. Available at http://www.dol.gov/esa/regs/compliance/whd/fairpay/preamble.pdf

  2. 29 C.F.R. Sec. 541.600.

  3. The DOL’s sample policy is available at http://www.dol.gov/esa/regs/compliance/whd/fairpay/modelPolicy_PF.htm

  4. 29 C.F.R. Sec. 541.700.

  5. 29 C.F.R. Sec. 541.100.

  6. 29 C.F.R. Sec. 541.200.

  7. 29 C.F.R. Sec. 541.300.

  8. Teachers, lawyers and doctors are not required to satisfy the salary level test in order to be deemed exempt professionals. Professions which service the medical profession, such as pharmacists, nurses, therapists, technologists, sanitarians, dietitians, social workers and psychologists need not satisfy the salary basis test in order to be deemed exempt professionals.

  9. 29 C.F.R. Sec. 541.601.

  10. 29 C.F.R. Sec. 541.3(a).

  11. 29 C.F.R. Sec. 541.3(b)(1).

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