Table of Contents
Disclaimer: The information provided within this Ebook refers to the overtime regulations proposed in 2016, and does not reflect the most recent changes. This Ebook does not include legal advice and is intended for general informational purposes only. No representations or warranties, express or implied, are made about the completeness, accuracy, reliability, suitability or availability with respect to the content or related graphics contained in this eBook. Any use of this information is at your own risk.
Introduction
Overtime is a challenging topic for many businesses…
Overtime is a challenging topic for many businesses that struggle to get maximum work out of employees while minimizing payroll and expenses. When mishandled, overtime pay can often be a culprit in throwing off a budget or creating litigious situations.
For those companies that dread the thought of dealing with employee exemption statuses or paying overtime, it’s time to buckle in. Change is coming.
The U.S. Department of Labor recently passed a new overtime law to better align compensation with hours worked. In short, many salaried workers who are currently exempt from overtime pay may now be eligible. While a financial impact to many businesses is inevitable, the value to the American workforce is undeniable.
This eBook explains the challenges that exist today with overtime, why a change was needed, what the new regulations mean, how your business may be affected, and what options may be available to you to minimize the financial impact.
The U.S. Departent of Labor recently passed a new overtime law to better align compensation with hours worked.
What is Overtime?
At the most basic level, overtime is defined as the amount of time worked outside the scope of normal working hours that requires additional compensation pay based on employee eligibility.
Because “normal working hours” could be open to interpretation, the United States set the standard definition about eighty years ago with the Fair Labor Standards Act of 1938. The FLSA established that a regular workweek is 40 hours (or eight hours a day, depending upon the state) and mandated the payment of one and one-half times the worker’s normal rate of pay (known as overtime pay) for any hours worked above that standard amount.
However, in order to be eligible for overtime, employees must be classified as “non-exempt”; employees who are not eligible for overtime are considered “exempt.”
“A common misconception is that job title or
salary level alone can determine status…”
A common misconception is that job title or salary-level alone can determine status, but in fact, three tests are applied to ascertain an employee’s standing. In order to be considered “exempt” and therefore not eligible for overtime pay, an employee must pass all three tests:
The employee must be paid on a salary basis that is not subject to reduction based on the quality or quantity of work.
The employee must be paid above the threshold set yearly by the Department of Labor.
The primary job duties must involve the kind of work associated with exempt executive, administrative, or professional employees.
Of note: the first two test requirements do not apply to teachers or “bona fide practitioners of law or medicine” (read: lawyers, doctors).
Why is Overtime Difficult to Comply With?
Managing overtime can be challenging for many organizations. Without the right structures in place to capture time and pay accurately (i.e. error-prone manual processes or older systems), as well as a clear understanding of how to apply the exemption status, employees may not be paid the correct amount for their hard work.
Even if tracking and payroll are done correctly, insights into the additional expense of overtime may not be exposed until it’s too late to manage the associated costs. The Bureau of Labor Statistics points to overtime accrual as one of the largest contributing factors to increased labor costs.
In fact, so many businesses struggle to handle payroll and time properly that the leading cause of labor litigations is overtime violations. These wage and hour violations accounted for approximately $3.6 billion in penalties from January 2007 through March 2015.
“The leading cause of labor litigations is overtime violations.”
Three Main Reasons Explain Why Overtime Violations Occur:
1. Complexity
Overtime rules aren’t simple and can be subjective, which makes consistent application difficult.
2. Vary by Location
Each city and state can have its own regulations, which makes management by location another variable to manage.
3. Changing Workforce
The increase in mobile and on-demand workers, coupled with disruptive technologies that blend the lines between work and personal time, make it challenging to track hours with manual or older systems.
Why is There a Change Being Planned?
“Times Have Really Changed…”
While the original FLSA standards and tests worked well in 1938, times have changed while regulations have seen very few updates. A minimum salary threshold was added in 1975, but that salary number has only been updated once in the forty years since, and the 2004 increase did not account for the impact of inflation.
The result? Only 7% of full-time salaried workers are eligible for overtime pay today; that number was 62% when the threshold was introduced in 1975.
How times have changed, indeed
While the exemption was originally designed to limit overtime pay for highly paid workers with better benefits, the erosion in the salary threshold has curtailed overtime pay to those who deserve it. To illustrate, a worker earning less than the poverty line for a family of four may earn too much to qualify for overtime with the $455 per week threshold.
As a result of this mismatch between intention and reality—as well as the increase in litigation over the years related to exemption status abuse and misclassification—the Department of Labor passed the new overtime law on May 18, 2016.
Did You Know?
Based on their current pay scale, nearly 35 percent of full-time, salaried workers will be eligible for overtime? That’s 4.2 million workers that will be newly eligible for overtime protections! This can be significant for time keeping and budgeting.
What is the Update?
Effective December 1, 2016, the Department of Labor’s Final Rule, updating overtime regulations, goes into effect and is expected to impact 4.2 million Americans within the first year of implementation. The purpose of the Final Rule is to protect and compensate large numbers of employees who deserve, but do not currently receive, overtime pay.
Here’s what you need to know about the key provisions and changes:
Threshold doubled: The annual salary threshold for exempt employees is increasing from the current $23,600 to $47,476 (or from $455 to $913 per week).
HCE compensation level increased: The total compensation level for highly compensated employees (HCE) who are full-time salaried workers is raised to $134,004 annually. To be exempt as an HCE, an employee must also receive at least the new standard salary amount of $913 per week on a salary or fee basis and pass a minimal duties test.
Automatic updates to salary threshold: To maintain accurate standards, a mechanism is in place to automatically update the salary and compensation levels every three years, starting on January 1, 2020.
While these three items represent the big updates, two other notable points include:
Bonuses and Incentives: The Salary Basis Test is amended to allow employers to use nondiscretionary bonuses and incentive payments (including commissions) to satisfy up to 10% of the standard salary level. Payments tied to productivity and profitability may be included.
Duties Test remains the same: No changes have been made to the Duties Test, which determines whether employees must be classified as non-exempt.
For a summary of the Department of Labor guidelines, this chart is the authoritative source for determining an employee’s exemption status:
How Does It Affect Your Business?
Every business will be impacted differently, depending on circumstances such as current employee exemption statuses, how many employees are now eligible for overtime payment under the updated rules, and where the business operates.
Financial Impact
The Department of Labor estimates the financial impact for employers will be $1.5 billion annually, with the lion’s share of that cost due to an increase in overtime pay to the tune of $1.2 billion. The remaining $300 million is attributed to the corresponding administrative costs.
Exemption Status
The change in employee exemption status is projected to impact 4.2 million workers directly. In addition, another 8.9 million will be indirectly affected with a reduction in the ambiguity of their status. The types of workers impacted include both salaried white collar workers (5.7 million) and salaried blue collar workers (3.2 million).
As explained by the Department of Labor, these workers are currently entitled to overtime but aren’t receiving it. The new rules help these workers “have their overtime protection strengthened because their status as overtime-eligible will be clear based on the salary test alone without the need to examine their duties.”
Location
The FLSA sets the minimum standards for all states. However, if your business is located in a state that has higher protective standards for employees than existed before (or after) the Final Rule, then the financial impact to your business may be lessened (although not necessarily the administrative headaches).
As an example, California employers will need to now keep track of federal and state thresholds because some provisions are stronger in each set of regulations. To elaborate, the Final Rule’s new salary threshold is higher than California’s threshold; however, the 51% duties test in California is stronger and more favorable to employees. As such, California employers are now beholden to both sets of standards.
What Are the Options and Impacts
As an employer, you have options for how to handle this update to the standard salary level. A logical first step is to arm yourself with knowledge about your workforce, including:
How many employees are now eligible for overtime pay?
What’s their current salary versus the threshold?
How many hours do these employees currently work?
Only with this overview of the situation can you determine the best path forward and clearly see the financial impact to your business. At the simplest level, you can then balance the cost of adopting one (or several) of these tactics:
Raising salaries above the threshold
Paying overtime
Eliminating or reducing overtime hours
Of course, a combination of these approaches can be applied if you examine each affected employee (or employee type) and determine the best course of action by individual (or equivalent group).
For example, it may make sense to raise the salary of a worker who consistently puts in overtime so that this employee is above the threshold and exempt. Alternatively, for a nine-to-five employee who rarely puts in overtime, allowing that worker to be reclassified as non-exempt will have little impact on your financials since overtime will either never happen or cost less than raising his or her salary.
Of note, the Department of Labor points out: “Nothing in the rule requires employers to change employees’ pay to hourly from salaried, even if the employees’ classification changes from exempt to overtime eligible.”
Scenarios, Impacts, and Suggested Actions
Every employee situation is unique, but the following scenarios provide some common challenges and suggested actions to minimize the impact on your business while satisfying the new regulations.
How Can You Plan for the Change?
Here are five steps that will prepare you and your employees for the changes ahead.
1. Step one: Review current employee hours and salaries
Paint yourself a clear picture of the employee situation today. You have time to get ahead of the changes and determine the right strategy. As such, know the following:
Review the pay of workers who are on the cusp of the salary threshold
Look at the number of hours that employees are working to determine if they can be reclassified as a non-exempt employee
Carefully evaluate the cost of retaining employees “as exempt”
2. Step two: Understand that costs extend beyond payroll
While it may be tempting to make a sweeping change and bring all salaries above the threshold, remember that the threshold will increase every three years, and costs extend beyond payroll.
Analyze and run what-if scenarios before you roll out a plan. Changes to an employee’s salary may impact benefits, which consequently means higher overall payroll costs. Conversely, never underestimate employee morale and the potential impact of being reclassified and losing employee benefits that are no longer mandatory.
3. Step three: Reevaluate your employee handbook and company policies
Do you know how important company policy and employee handbooks are? From a legal perspective, those internal documents are next in line after federal, state, and local regulations. If a government law does not cover something, your business policies are the rule.
Most importantly, know what your policies are, how you’re managing them, and how they are being carried out in practice. Consistent application of policy is key. And always consider remote employees, telecommuters, and your contingent workforce when formulating and applying company policies.
4. Step four: Train your workforce and get buy-in before changes are rolled out
Employees will look to the business leaders to make clear the upcoming changes to overtime regulations and to explain how it impacts the employees and the business. Train all employees—executives, middle management, supervisors, HR, Payroll, workers—so that everyone is on the same page and buy-in comes from the top-down and the bottom-up. The best way to avoid litigious action is to educate.
5. Step five: Start tracking your exempt employees as well
The line between exempt and non-exempt employees keeps blurring, and misclassification of employees is a huge problem. Now is a great time to arm yourself with data so you can chart the right course. Visibility into attendance and productivity metrics across the organization will not only help your business but may also help you avoid future surprises. With the automatic threshold updates, it never hurts to have all the possible data on your workforce in order to stay ahead of future changes.
If capturing work time is a new activity for some or all of your employees, here are some helpful considerations to keep in mind as you implement new data collection:
It is extremely important to train employees who need to track time to make sure it is done properly. Their pay/overtime and your legal cover depend on accurate time keeping.
Now is a great time to correct misclassification issues and work hard to avoid future ones.
Exempt employees can also have their time scheduled and tracked. In fact, Illinois requires time records.
Tracking employee time helps with additional intelligence such as productivity, billing, and benchmarks to provide more helpful decision-making data in the future.
Conclusion
“The end result is to create a healthier and happier workforce”
The end result of the Final Rule is that middle class workers will be compensated for their time—either financially through overtime pay or by having more free time for their personal lives. While these updates to overtime may feel painful for some businesses, the new regulations are long overdue, and the end result will be a healthier and happier workforce.
*This Ebook was written in reference to the overtime regulations proposed in May 2016. For information on the update effective as of January 1st, 2020, see this three-part series detailing all of the latest changes, impacts, and best practices. If you have queries or want to discuss more about the new overtime rules and how to navigate the changes, please feel free to reach out to us.
See how we helped one of our customers with wage and hour compliance:
CASE STUDY:
Replicon helps Rope Courses, Inc. get a grip on time and expenses