On May 23, 2016, the U.S. Department of Labor (“DOL”) published final regulations updating how certain exempt-status employees must be paid under the federal wage and hour law, the Fair Labor Standards Act (“FLSA”). These exemptions are commonly referred to as the “white collar” or “EAP” (Executive, Administrative, and Professional) exemptions to the FLSA, which allow employers in certain circumstances to avoid payment of overtime. The long-anticipated final rules represent some compromise to the 2015 proposed regulations that prompted over 270,000 comments from employer and employee-based groups throughout the nation. The final regulations were published with an overview of those extensive comments in the Federal Register on May 23, 2016, and will be effective for virtually all Idaho employers on December 1, 2016.[i] The final rule is expected to transfer income from employers to employees through higher earnings, either in the form of a raise or in overtime payments, and is conservatively projected to cost employers $1.2 billion per year over the next 10 years.
According to the federal government’s statistical predictions, 22.5 million current EAP exempt-status employees will be “potentially affected” by these rules in 2017. Of those, an estimated 4.2 million EAP workers[ii] will now fall out of exempt status and will be eligible for and must be paid overtime for all hours worked over 40 in a workweek. The federal government believes an additional 9 million EAP workers are improperly classified as exempt and may also assert their right to overtime under these new rules. According to the government, most of the misclassified employees who work more than 40 hours in a week and do not get paid overtime work in retail, food/beverage, and manufacturing environments.
Two key changes to the rules for overtime will become effective in December.[iii] The first is the minimum salary level that must be paid to an EAP employee will more than double, from $23,660 per year to $47,476 per year (or $913 per week). This significant jump was justified by the federal government given the length of time since the last adjustment to this minimum salary in 2004, as well as its belief that the 2004 regulatory changes did not accurately reflect a true test of this exception to the normal rule that employees must be paid minimum wages and overtime under the FLSA. This extraordinary adjustment is therefore justified, according to the government, to preserve the best and most objective test of exempt status – a high salary. This amount is slightly less than the amount set out in the proposed regulations, and it represents the 40th percentile of the lowest paid Census Region in the nation, the South. In theory, this is not a minimum wage requirement, as an employer is only required to pay this amount if they are claiming the application of one of the white collar exemptions. But the practical effect is this significantly higher minimum salary level will mean millions of fewer employees will qualify for the EAP or white collar exemptions.
The second key change is that the minimum salary level will be updated every three (3) years in order to prevent lags that subsequently lead to these dramatic adjustments, with the next increase effective January 1, 2020. This also presents a compromise to the proposed rules, which suggested an annual update to this number based on a fixed percentage, which over time would have dramatically increased this minimum salary level. Instead, the minimum salary level will continue to be based on the lowest paid Census Region in the nation and is projected to jump to $51,000 in 2020. Employers will be given the final adjusted number with 150 days’ notice prior to the effective date of any change starting with the January 2020 update.
Importantly, the final rules make no change to the “duties test,” or portions of the EAP rules mandating employees engage in certain duties for the rules to apply, which would have further complicated these changes and eliminated whole classes of workers from exempt status.
Finally, two other changes were set out in the final regulations. The minimum salary levels for certain employees who qualify for exempt status as a Highly Compensated Employee (“HCE”) will move from $100,000 per year to $134,004 per year. In response to certain feedback, employers may also for the first time count nondiscretionary bonuses including commissions toward 10 percent of the minimum salary threshold under the EAP minimum salary test. Nondiscretionary bonuses are, for example, tied to productivity and profitability. Notably, these bonuses and commissions must be paid on a quarterly or more frequent basis, and a catch-up payment is allowed at the end of a quarter. While nondiscretionary bonuses and commissions may exceed this amount, the 10 percent represents a cap on what may be counted as a part of the minimum salary level (i.e., $91 of the $913 per week may be bonuses or commissions).
Despite significant feedback, there are no exceptions to the new rules for non-profit organizations, or for small businesses in rural and low-wage states like Idaho. The only new and unexpected exception under the final rules is a time-limited non-enforcement provision for Medicaid funded providers of services for individuals with disabilities in facilities with fifteen (15) or fewer beds. Those employers will be allowed an extension until March 17, 2019, for compliance with the rules. Public sector employers may buffer some of the impact with use of compensatory time off, which is not an option for private sector employers. Certain professions are not subject to the salary basis or salary level rules, including teachers, doctors, lawyers, and outside sales employees. The DOL published a series of guides for small businesses, higher education institutions, non-profit organizations, and other employers that will be particularly hard hit by these new rules.[iv]
Employers can consider several options for compliance. Employees who are exempt and under, but close to this new minimum threshold can be raised to the new salary level, particularly if they generally work more than 40 hours in a week. Conversely, employees who are well under this level and who do not work over 40 hours in a week may simply be converted to a salary or hourly status (salary status is not synonymous with exempt status, but is merely one requirement of exempt status) and become overtime eligible. Employers who can project the amount of overtime generally worked by a currently exempt employee can reduce their base pay to a lower minimum base or hourly amount then add on projected overtime amounts in order to establish a comparable rate. Many employers project managing overtime or hiring more part-time employees to cover various positions, with the downside risk of fewer hours, fewer benefits, less pay, and less flexibility for these new overtime-eligible employees. Employers should take the extended notice period to plan for and communicate these changes prior to the December 1, 2016 effective date.
The DOL went to some effort in its resource guides to stress that newly overtime-eligible employees after December 1 will not need to “punch a time clock.” They emphasize that “employers have options for accounting for workers’ hours – some of which are very low cost and not burdensome.” For example, if an employee works a fixed schedule that rarely varies, the employer may keep a record of the schedule and the employee merely documents any variances to the schedule, a concept known as “exceptions reporting.” The employee need not record actual start and ending times each day. See DOL FAQ No. 11. While this may be true, the reality and risk is that an employer must maintain an accurate record of the number of daily hours, including overtime, and both the system and the habit will have to change for employees who now become eligible for overtime.
As a final and interesting twist, in March 2016, legislation was introduced in Congress, the “Protecting Workplace Advancement and Opportunity Act,” which if passed (and which would have to overcome a nearly-certain Presidential veto), would declare these final regulations to “cease to have any force or effect.” The proposed legislation specifically rejects any automatic updating procedure to the minimum salary threshold level. Representatives Simpson and Labrador, as well as Senators Crapo and Risch, have signed on as co-sponsors of the legislation. As of May 23, the House bill had 167 co-sponsors and the Senate bill had 42 co-sponsors, all Republicans. It is unclear what if any chance this legislation, which will most certainly impact the middle class, will have of ultimately passing in an election year and now that these rules have been finalized with some compromise.
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[ii] Of the 4.2 million EAP workers, the federal government projects 19,764 will be Idaho workers, which represent 3.1 percent of the affected workers as a share of workers subject to the FLSA.