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May 19, 2016
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by Adam Long

After many months of anxious anticipation by employers, the U.S. Department of Labor published on May 18, 2016, its Final Rule to update the regulations for the “white-collar” overtime exemptions under Section 13(a)(1) of the Fair Labor Standards Act. The DOL estimates that the changes made by the Final Rule will raise Americans’ wages by $12 billion over the next ten years and make 4.2 million currently overtime exempt workers eligible for overtime compensation. Simply put, the DOL believes that these changes will have a profound impact on the employee classifications and labor costs for many, if not most, American employers.

The DOL’s Final Rule contained some anticipated changes, along with a few surprises.

Minimum Salary Requirement – More Than Doubled and Updates Automatically Every Three Years

The white-collar exemption tests generally contain both a minimum salary requirement and a duties test.  Most significantly, the DOL increased the minimum weekly salary required for the FLSA’s white-collar exemptions from the current $455 to $913 (i.e., $47,476 annually).  This amount is equal to the 40th percentile of earnings for all full-time salaried workers in the lowest-wage Census Region (currently the South).

With this change, anyone who earns less than $913 per week would be eligible for overtime pay, regardless of their position, job duties, or level of responsibility within the organization.  In addition, the Final Rule will update automatically the minimum salary amount to the level of the above percentile, with the first update taking effect on January 1, 2020.  (The DOL will announce the new minimum salary number at least 150 days in advance of its effective date.)

In its notice of proposed rulemaking issued in July 2015, the DOL proposed increasing the minimum salary number to approximately $970 per week (i.e., the 40th percentile of earnings for all full-time salaried workers nationally) and annual updates.  Thus, the minimum salary requirement increase in the Final Rule is similar, but not identical, to what the DOL initially proposed, with a slight decrease in the new minimum number and automatic changes (which almost certainly will be increases) every three years, rather than annually.

Minimum Salary Requirement – Bonuses and Other Incentive Compensation

The Final Rule also provides that up to 10% of the new minimum salary threshold can be met with non-discretionary bonuses and other incentive payments, including commissions. To qualify, these payments must be made at least quarterly. The Final Rule allows employers to make a “catch-up” payment to cover the minimum salary requirement if the employee does not earn sufficient incentive compensation. Under the existing regulations, non-guaranteed incentive compensation does not count for purposes of the exemptions’ existing minimum weekly salary requirement.

No Changes to the Exemptions’ Duties Tests

In a somewhat surprising move, the DOL did not make any changes to the exemptions’ duties tests. The DOL did not propose any changes to the duties test in its proposed rule in July 2015, either, but instead solicited input asking if it should make changes in certain specific areas. Many observers anticipated that the DOL would include at least some changes to the duties tests in its Final Rule. The existing duties tests in the current regulations will remain in place indefinitely.

Increase in Total Annual Compensation Requirement for Highly Compensated Employee Exemption

The Final Rule also increases the total annual compensation threshold for the FLSA’s highly compensated employee exemption from $100,000 to $134,004. This minimum compensation threshold also will be updated every three years. The DOL states that this amount is equal to the 90th percentile of full-time salaried workers nationally.

Please note: This exemption is of limited value for Pennsylvania employers, as the Pennsylvania Minimum Wage Act, which like the FLSA includes overtime compensation requirements, has no companion highly compensated employee exemption. An employee who meets this FLSA exemption still would be entitled to overtime pay under Pennsylvania law, unless the employee qualified for another exemption.

Effective Date of the Changes – December 1, 2016

In perhaps the most surprising development, the DOL set December 1, 2016 as the Final Rule’s effective date. Many observers expected the Final Rule to take effect 60 days after its issuance, creating potential chaos as employers attempted to address and comply with the changes in a very brief period of time. Now, employers have more than six months to analyze the changes in the Final Rule and prepare a strategy to implement necessary changes to their job classifications and employee compensation.

Next Steps

There may be attempts through legislative and/or legal action to stop the changes made by the DOL’s Final Rule. The likelihood of success by either approach is uncertain at best. Thus, employers should proceed with the expectation that these changes to the FLSA’s overtime exemption requirements will take effect on December 1, 2016.

Pennsylvania employers should not wait to formulate a plan to respond to these changes. Specifically, employers should consider the following action items:

• Identify employees who currently are classified as exempt under the FLSA white-collar exemptions and earn an annual salary of less than $47,476.

• For those employees, consider whether to (1) increase their salaries by December 1 to meet the new minimum salary requirement or (2) convert them to non-exempt status for FLSA overtime pay and minimum wage purposes. When making this decision, employers should consider the following factors:
  • The hours worked by the employees at issue, the predictability of the hours worked and overtime hours, the ability to track the hours worked, and the ability of the employer to manage the hours worked to minimize overtime costs.
  • Changes necessary to the job as a result of conversion to non-exempt status, such as changes to remote access, work from home, etc., to manage and track hours worked.
  • The level of confidence the employer has in its ability to prove that the employees meet the duties test for one of the white-collar exemptions, even if the minimum salary requirement can be met. In other words, if the employer cannot prove that the employee meets the job duties test for one of the white-collar exemptions, the employee should be classified as non-exempt, even if the employee earns more than the new minimum salary requirement.
  • The potential applicability of more creative approaches to non-exempt compensation permitted by the FLSA, such as salaried, non-exempt status, to strike the appropriate balance between managing labor costs, meeting operational needs, and maintaining employee morale and satisfaction.

• For those employees who earn more than $47,476 annually and are treated as exempt, confirm that the employer can prove that the employees meet the duties test for one of the white-collar exemptions. The issuance of the DOL’s Final Rule gives employers an opportunity to review all employees’ exempt classifications and make changes where appropriate, even if the changes are not mandated by the changes in the Final Rule itself.

• For non-exempt employees, review the employer’s pay practices to ensure that it is properly recording hours worked, calculating the regular rate, and paying overtime compensation, even for those employees whose status is unchanged by the Final Rule. Again, the changes mandated by the Final Rule give employers an opportunity to audit their pay practices and make changes where necessary as part of their overall response to the Final Rule. Also, the Final Rule may increase the number of non-exempt employees of many employers, increasing the potential risk associated with non-compliant overtime pay practices.

The DOL certainly believes that the Final Rule’s impact on employers will be significant and widely felt, and we do not disagree. Now is the time for employers to begin to create a plan to address these changes to ensure compliance when December 1 comes.

© 2016 McNees Wallace & Nurick LLC
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