Proposed changes to federal regulations governing overtime pay may dramatically expand the number of employees entitled to overtime pay under the Fair Labor Standards Act (“FLSA”) and employers should plan now for the impact. 

Required Salary Level Expected to Exceed $50,000

The Department of Labor is proposing to increase the salary level at which executive, professional, and administrative employees must be paid to qualify as exempt from FLSA’s minimum wage and overtime provisions under the so-called “white collar exemptions.”  The proposed change would also affect the salary level applicable to computer employees.  Under the proposal, to be exempt under the white collar exemptions, employees would have to be paid a salary equal to the 40th percentile of weekly earnings of full-time salaried workers, as determined annually by the DOL’s Bureau of Labor Statistics.  Based on 2013 BLS data, the DOL’s proposed rule would revise the salary level test to $921 per week, or $47,892 for a full-year worker, from the current level of $455. 

The DOL is also proposing to change the compensation level for employees to qualify as exempt under the exemption for highly compensated employees.  Specifically, if finalized, the proposed rule would set the annual compensation level at an amount equal to the 90th percentile of earnings for full-time salaried workers ($122,148 annually).  The current level requires annual compensation of $100,000.

Annual Updates Would Boost Salary Levels Annually

To eliminate the need for future rulemaking regarding salary and compensation levels for the white collar exemptions, the DOL is proposing to include a mechanism automatically to update the salary and compensation thresholds on an annual basis using either a fixed percentile of wages or the Consumer Price Index – Urban.  The proposal noted that the DOL would update the data supporting the final rule, which is expected later this year. 

The Department has stated that, if the final rule adopts a rule based on the 40th percentile of weekly earnings of salaried employees, it would likely rely on data from the first quarter of 2016.  It also indicated that, as of July 6, 2015, the date of the publication of the proposed rule, the latest data currently available were for the first quarter of 2015, in which the 40th percentile of weekly earnings was $951.  Assuming two percent growth between the first quarter of 2015 and the first quarter of 2016, the DOL is projecting that the 40th percentile weekly wage in the final rule would be $970, or $50,440 for a full-year worker.  The annual updates would require vigilance by employers to ensure that exempt employees, particularly any at or just above the salary level, do not fall below any updated salary level and thereby lose their exemption and become entitled to overtime pay.  For some, the annual update could operate to cause annual increases in salary rates.

Impact Expected to be Significant

The proposed changes in the salary and compensation levels represent significant changes relative to historical levels, including under both the “short” and “long” tests for the white collar exemptions under previous regulations.

The DOL projects that the regulatory revisions would affect 4.6 million workers who are currently exempt but who would not satisfy the proposed salary level.  The Department also projects employers to incur $592.7 million in direct costs for compliance activities in the year following implementation of the rule.  If finalized, in the first year of implementation, the proposal rule will redistribute $1.482 billion from employees to employees, according to the DOL.

Watch List for Other Possible Changes

Since 1940, the DOL regulations implementing the white collar exemptions have generally required each of three tests, i.e., the salary level test, the salary basis test, and the primary duty test, to be met for the exemptions to apply.  To be paid on a salary basis, an individual must be paid a predetermined and fixed amount that is not subject to reduction because of variations in the quality or quantity of work performed.  To satisfy the primary duty test, the employee’s job duties must primarily involve executive, administrative, or professional duties.  The primary duty tests have specific elements that must be met.  Exemptions for computer professionals require specific primary duties but permit the satisfaction of compensation requirements either by payment of an hourly rate of $27.63 or on a salary basis at the level required by the regulations, which is currently $455 per week.

The DOL’s proposed rule contains no change to either the salary basis or the primary duty tests.  Indicating that it was “concerned” that current primary duty tests allow the exemption of employees performing such a “disproportionate amount of nonexempt work that they are not exempt in any meaningful sense,” however, the DOL asked for and received comments from interested parties regarding whether the duty tests should be revised.  The Department indicated that it was considering the need for a possible revision to the primary duty element that would require exempt employees to spend a specified amount of time, e.g., at least 50 percent, performing the primary duty.  The current rule does not require any specific amount of time to be spent on the primary duty and requires only that the employee’s primary duty be non-exempt work. 

The Department also indicated that it would also consider whether a final rule would permit nondiscretionary bonuses to satisfy up to 10 percent of the salary requirement applicable to the white collar exemptions.  The DOL also received input from interested parties regarding whether commissions should be counted to satisfy the salary level requirement.

Employers Should Prepare Now

The DOL has signaled that it may issue a final rule in July 2016, which permits employers some time to prepare for the possible changes.  While the proposed rule would apply to all employers covered by the FLSA, some industries, including hospitality, restaurants, and retailers, will be harder hit than others.  State and local law also may have different exemption requirements.  Employers should consider the following actions to prepare:

• Identify any employees who earn less than $47,892 and $50,440 per year.

• Identify any employees who earn $122,148 or more per year.

• Analyze jobs and job descriptions, including borderline exemption classifications for executive, administrative, professional, and outside sales employees and highly compensated individuals.

• Reevaluate exemption classifications to determine that positions are properly classified and meet the tests for salary or compensation, the salary basis, if applicable, and primary duty.

• Ensure the payroll system reflects exempt/nonexempt status accurately.

• Consider increases in compensation, reclassification of positions as non-exempt or exempt, and changes in duties in order to comply with exemption requirements.

• Consider exemption requirements under applicable state and local law.

• Check any collective bargaining agreement that may apply to individuals in relevant positions and prepare to perform bargaining obligations, if any.

• Project possible costs to the organization, including the number of hours worked by impacted employees and the cost of any salary increases indicated.

Misclassification of employees is a common source of employer liability under the FLSA, and employers should rely on labor and employment law counsel to support their compliance activities.