The DOL’s Final Rule on FLSA Overtime Exemptions: What PEOs Need to Know

By Kathleen McNeil, Attorney

As everyone in the PEO industry should know by now, the Department of Labor (DOL) issued its long-awaited Final Rule on the Fair Labor Standards Act (FLSA) overtime exemptions this past spring. The Final Rule contains changes to key provisions of the existing law that require clear understanding and careful preparation by employers and human resource managers. The new rule takes effect on December 1, 2016. Indeed, there is still time to finish reviewing the rule’s impact on your workforce and your clients’ workforces and then begin implementing the necessary changes, but the clock is definitely ticking. So in case the mix of summer fun and excitement over the Summer Olympics has dulled your memory of the Final Rule and its implications, here is a brief summary of the changes and some strategies for employers to make a successful transition in the next three months.

Background

In March of 2014, President Obama directed Secretary of Labor Tom Perez to update the Fair Labor Standards Act’s regulations governing which white-collar workers qualify as exempt from the overtime requirements of the FLSA. Perez noted the salary levels had not been meaningfully updated in decades. As a result, the exemption from overtime eligibility that was originally intended for a small portion of white-collar employees has been applied to workers earning as little as $455 per week or $23,660 annually – an amount now below the poverty level for a family of four.
Following months of deliberation and review of over 294,000 public comments, the DOL issued the final version of its white-collar overtime exemption on May 18, 2016. The impact of the changes will undoubtedly be significant. The DOL estimates that the Final Rule will extend the right of overtime compensation to a whopping 4.2 million employees who are currently considered exempt from such pay. And while the Final Rule will not take effect until December 1, 2016, employers and human resource managers need to work strategically to implement the required changes in a manner that protects the organization’s budget, its labor requirements and the morale of its workforce. Failure to do so may result in hefty fines, negative publicity and/or damaged morale.

Final Changes to the White-Collar Minimum Salary Threshold

The Final Rule increases the minimum salary threshold required to qualify for the Fair Labor Standards Act’s “white collar” exemptions to $47,476 per year (or $913 per week) – more than double the previous salary threshold of $23,660 (or $455 per week). The rule permits non-discretionary bonuses and incentive payments (including commissions) to satisfy up to 10 percent of the new standard salary level. Assuming $47,476 is an employee’s total annual compensation, up to $4,747 can come from nondiscretionary bonuses. These bonuses can be tied to productivity and profitability but they must be paid on a quarterly or more frequent basis. And even if an employer pays very large bonuses, the amount attributable to the standard salary level is capped at 10%. The Final Rule noted the Department’s belief that the minimum salary threshold is the single best test for exempt status.

Final Changes to the Exemption for Highly-Compensated Employees

The Final Rule also increases the compensation level needed to satisfy the “highly compensated employee” exemption from $100,000 to $134,004 per year. This amount equals the annual equivalent of the 90th percentile of full-time salaried workers nationally. For the highly compensated employees, nondiscretionary bonuses and incentive payments can also be used but only for income in excess of the standard salary level of $47,476 annually.

Automatic Updates

Due to the uncertain outcome of future elections, and with the goal of providing long-lasting economic security for employees, the DOL included a mechanism in the Final Rule that will automatically increase the minimum guaranteed salary and compensation levels every three years, beginning in January of 2020. The standard salary level will be updated to maintain a threshold equal to the 40th percentile of weekly earnings of full-time salaried workers in the lowest-wage Census Region. By 2020, the DOL estimates that the standard salary level will increase to over $51,000 annually. The DOL will publish updated rates in the Federal Register and on its Wage & Hour Division website at least 150 days before their effective date.

What this Means for PEOs and Client Employers

The first step for employers to comply with the Final Rule is to identify and review current overtime exempt positions and salaries that fall between the current $23,660 and the new $47,476 threshold. Once identified, employers have three basic options for adjusting their compensation practices effective no later than December 1, 2016:

  • Increase the compensation of currently exempt employees to a minimum of $47,476 to maintain their status as exempt from overtime;
  • Reclassify positions that pay between $23,660 and $47,476 from exempt to nonexempt and pay employees in those positions overtime when they work in excess of 40 hours per week; or
  • Restructure their workforce or revise certain job descriptions. This may involve the shifting of responsibilities from hourly employees to the workload of salaried employees to ensure that hourly employees can complete their duties in a 40-hour work week.

While considering these three options for all affected positions, employers and human resource managers should use this opportunity to consider the following as well:

  • Develop a new compensation plan considering base and bonus pay. Be mindful of the impact that reclassification may have on an employer’s vacation or leave policies. For example, do salaried employees receive a pre-determined amount of vacation while hourly employees must accumulate it?
  • Budget carefully to ensure that the automatic updates for the minimum salary that are scheduled to occur every three years are part of the planning and be sure to check the Federal Register and/or the DOL’s Wage and Hour Division website regularly for the updated rates.
  • Develop an overtime strategy. For example, adopt a policy that employees must obtain prior management approval before any overtime work is completed.
  • Develop a communication plan to affected employees. For many workers, being a salaried employee is more prestigious than being paid an hourly wage. The transition to an hourly wage may feel like a demotion. Employers must craft their message carefully to avoid negatively affecting employee morale.
  • Train managers on the scheduling, tracking and management of overtime pay and developing classifications for new positions

Does “Final” Really Mean Final?

Good Question. Although PEOs and client employers must prepare to fully comply with the Final Rule no later than December 1, 2016, they must also pay attention to what happens in Washington D.C. over the coming months. As one would imagine, there are many opponents who argue that implementation of the new rule will be far too costly for employers (the DOL estimates that the Final Rule will cost private employers $1.8 billion in the first year). As a result, a motion of disapproval under the Congressional Review Act is being considered and a coalition of major trade associations representing employers is lobbying for a bill to be introduced in Spring of 2017 that would block the implementation of the Final Rule. One more reason to pay close attention to election results in November. Stay tuned.

Don’t Forget … State Law!

While the focus of this article is on the FLSA, experienced HR professionals know that state laws often differ from the FLSA, and where applicable state law provides greater protection and/or benefit to an employee, the more generous law must always be observed.

As published in PEO Insider Magazine, October 2016.