The Department of Labor conducts audits and brings lawsuits on behalf of employees it believes have been improperly classified and denied overtime pay. Because the rules are difficult to apply, and awards of double damages and attorney fees are a possibility, there are law firms which specialize in bringing lawsuits on behalf of not only their clients but other “similarly situated” employees of the defendant employer.

It is therefore critical that employers understand and fully comply with these regulations.

The basics of the revised federal overtime exemption rules are as follows:

I. NEW OVERTIME EXEMPTION CATEGORY FOR EMPLOYEES EARNING $100,000 PER YEAR OR MORE

A new exemption category was established by the 2004 rules change which applies to employees who perform office or non-manual work and earn at least $100,000 per year. If such an employee meets at least one factor of the tests required to qualify as an exempt executive, administrative or professional employee, that employee will be considered automatically exempt.

For example, if such an employee satisfies one factor of the usual three factor test for determining the “executive” employee exemption, the employee will be deemed exempt. The required total annual compensation of at least $100,000 may consist of commissions, nondiscretionary bonuses or other nondiscretionary compensations earned during a 52-week period.

However, it would not include payments for medical or life insurance or contributions to retirement plans or fringe benefits. At least $455 per week of the employee’s salary must be paid on a salary or fee basis (as those terms are defined in the regulations).

If it turns out that an employee’s total annual compensation does not equal $100,000 by the end of the year (and any 52-week period can constitute the employer’s year), the employer may, within one month after the end of the year, make one final payment so that the employee reaches the $100,000 level.

Catch-up payments made at the end of the year may be counted only once, toward the “total annual compensation” for the preceding year, and cannot then be counted as part of the employee’s compensation in the succeeding year.

The Department of Labor suggests that employers create evidence of catch-up payments by documenting and advising the employee of the purpose of the payment. A similar, but prorated, catch-up payment may be made within one month after the termination of employment of an employee whose employment ends before the end of the employer’s 52-week period.

II. MINIMUM SALARY REQUIREMENTS TO BE AN EXEMPT EMPLOYEE

The minimum salary that most categories of exempt employees must be paid in order to qualify as exempt has been raised to $455 per week. The salary level, and the salary basis payment requirements, do not apply to certain limited categories of employees, such as teachers, attorneys, doctors, outside sales employees and certain computer-related occupations paid at least $27.63 per hour.

III. RULES AS TO WHO IS AN EXEMPT “EXECUTIVE” EMPLOYEE

Under the 2004 rules, the old long and short exemption tests were eliminated in favor of a single test. To qualify as an exempt executive employee, all of the following factors must be met:

• The employee must be compensated on a “salary basis” (as defined in the regulations) at a rate not less than $455.00 per week;

• The employee’s primary duty must be managing the enterprise, or managing a customarily recognized department or subdivision of the enterprise;

• The employee must customarily and regularly direct the work of at least two or more full-time employees or their equivalent (e.g., one full-time employee and two half-time employees); and

• The employee must have the authority to hire or fire other employees; or the employee’s suggestions and recommendations as to the hiring, firing, advancement, promotion or any other employee status changes must be given “particular weight”.

1. Primary duty means the principal, main, major or most important duty that the employee performs. A determination of an employee’s primary duty must be based on all of the facts of the particular case, with a major emphasis on the character of the employee’s job as a whole. Factors to consider when determining the primary duty of an employee include, but are not limited to,

• the relative importance of the exempt duties as compared with other types of duties;

• the amount of time spent performing exempt work;

• the employee’s relative freedom from direct supervision; and

• the relationship between the employee’s salary and the wages paid to other employees for the kinds of nonexempt work performed by the employee.

The regulations state that the amount of time spent performing exempt work can be a useful guide in determining whether exempt work is the primary duty of an employee. Thus, employees who spend more than 50% of their time performing exempt work will generally satisfy the primary duty requirement.

Time alone, however, is not the sole determinant. Employees who do not spend more than 50% of their time performing exempt duties may nonetheless meet the primary duty requirement if other factors support such a conclusion.

An example provided in the regulations is an assistant manager in a retail establishment who performs exempt executive work such as supervising the work of other employees, ordering merchandise, managing the budget and authorizing payment of bills.

Even if such an employee spends more than 50% of his time performing nonexempt work such as running a cash register, he may still qualify as exempt. However, if the assistant manager were closely supervised and earned little more than the nonexempt employees, the assistant manager generally would not satisfy the primary duty requirement.

Concurrent performance of exempt and non-exempt work does not disqualify an employee from the executive exemption if the exemption test is otherwise met. Generally, exempt executives make the decision as to when to perform non-exempt duties, and they remain responsible for the success or failure of business operations under their management while performing non-exempt work.

In contrast, a non-exempt employee generally is directed by a supervisor to perform the exempt work, or perform the exempt work for defined time periods.

2. Management includes, but is not limited to, activities such as:

• interviewing, selecting and training employees;

• setting and adjusting employee rates of pay and hours of work;

• directing the work of employees;

• maintaining production or sales records for use in supervision or control;

• evaluating employee productivity and efficiency for the purpose of recommending promotions or other changes in status;

• handling employee complaints and grievances;

• disciplining employees;

• planning the work;

• determining the techniques to be used;

• apportioning the work among employees;

• determining the types of materials, supplies, machinery, equipment or tools to be used or merchandise to be bought, stocked or sold;

• controlling the flow and distribution of materials or merchandise and supplies;

• providing for the safety and security of the employees or the employer’s property;

• planning and controlling the budget; and

• monitoring or implementing legal compliance measures.

For example, a shift can constitute a department or subdivision. When a business has more than one location, the employee in charge of each location may be considered in charge of a recognized subdivision of the business. A recognized department or subdivision need not be located physically within the employer’s establishment and may move from place to place. The mere fact that an employee works in more than one location does not invalidate the exemption if other factors show that the employee is actually in charge of a recognized unit with a continuing function in the organization.

Continuity of the same subordinate personnel is also not essential. In other words, an exempt employee will not lose the exemptions merely because the employee draws and supervises workers from a pool or supervises a team of workers drawn from other recognized units, if other factors reflect that the employee is in charge of a recognized unit with a continuing function.

4. Customarily and regularly means a frequency that is greater than occasional but less than constant. It includes work normally and recurrently performed every work week. It does not include isolated or one-time tasks.

5. Two or more employees means two full-time employees or their equivalent, such as four half-time employees. Supervision can be distributed among two, three or more employees, but to be exempt executive employees, each employee must customarily and regularly direct the work of two or more other full-time employees or their equivalent. The supervision of the same employees cannot be credited toward the exempt status of more than one employee.

6. Particular Weight. Factors to be considered, in deciding whether an employee’s suggestions or recommendations on hiring, firing or other employment status changes are given “particular weight” include, but are not limited to:

• whether it is part of the employee’s job duties to make such suggestions and recommendations;

• the frequency with which such suggestions are made or requested;

• the frequency with which the employee suggestions and recommendations are relied upon.

Evidence that an employee’s recommendations are given “particular weight” could include testimony about recommendations that were made and considered; the exempt employee’s written job description which lists responsibilities in this area; the exempt employee’s performance reviews documenting employee activities in this area; or other documents relating to promotions, demotions or other changes of status that reveal the employee’s role in this regard.

An occasional suggestion probably is not sufficient. However, evidence that an employee makes recommendations about any one type of employment status change, e.g., hiring, may be sufficient.

IV. RULES AS TO WHO IS AN EXEMPT ADMINISTRATIVE EMPLOYEE

To qualify as an exempt administrative employee, all of the following tests must be met:

• The employee must be compensated on a “salary” or “fee” basis (as defined in the regulations) at a rate not less than $455.00 per week;

• The employee’s primary duty must be the performance of office or non-manual work directly related to the management or general business operations of the employer or the employer’s customers; and

• The employee’s primary duty must include the exercise of discretion and independent judgment with respect to matters of significance.

1. Management or General Business Operations. To meet this requirement, an employee must perform work directly related to assisting with the running or servicing of the business, as distinguished from, for example, working on a manufacturing production line or selling a product in a retail or service establishment. Work directly related to management or general business operations includes, but is not limited to, work in functional areas such as tax, finance, accounting, budgeting, auditing, insurance, quality control, purchasing, procurement, advertising, marketing, research, safety and health, personnel management, human resources, employee benefits, labor relations, public relations, government relations, computer network, internet and database administration, and legal and regulatory compliance.

2. Discretion and Independent Judgment About Matters of Significance. This term involves the comparison and evaluation of possible courses of conduct, and acting or making a decision after the various possibilities have been considered. Factors to be considered in this determination include, but are not limited to:

• whether the employee has authority to formulate, affect, interpret or implement management policies or operating practices;

• whether the employee carries out major assignments in conducting the operations of the business;

• whether the employee performs work that affects business operations to a substantial degree, even if the employee’s assignments are related to operation of a particular segment of the business;

• whether the employee has the authority to commit the employer in matters that have significant financial impact;

• whether the employee has authority to waive or deviate from established policies and procedures without prior approval;

• whether the employee has authority to negotiate and bind the company on significant matters;

• whether the employee provides consultation or expert advice to management;

• whether the employee is involved in planning long or short-term business objectives;

• whether the employee investigates and resolves matters of significance on behalf of management; and

• whether the employee represents the company in handling complaints, arbitrating disputes or resolving grievances.

The exercise of discretion and independent judgment must be more than the use of skill in applying well-established techniques, procedures or specific standards described in manuals or other sources. However, exempt employees may use manuals, guidelines or other established procedures if they contain or relate to highly technical, scientific, legal, financial or other complex matters. Discretion and independent judgment also does not include clerical or secretarial work, recording or tabulating data, or performing other mechanical, repetitive, recurrent or routine work. An employee does not exercise discretion and independent judgment as to matters of significance merely because the employer will experience financial losses if the employee fails to perform the job properly.

Examples of administrative employees. Human resource managers who formulate, interpret or implement employment policies generally meet the administrative duties requirement. Personnel clerks who screen applicants to obtain data regarding minimum qualifications and fitness for employment generally are not exempt administrative employees. When interviewing and screening functions are performed by the human resources manager or personnel manager who makes the hiring decisions or makes recommendations for hiring from the pool of qualified applicants, such duties constitute exempt work, even though routine, because this work is directly and closely related to the employee’s exempt function.

An employee who leads a team of other employees assigned to complete major projects for the employer (such as purchasing, selling or closing all or part of the business, negotiating a real estate transaction or a collective-bargaining agreement or designing and implementing productivity improvements) generally meets the duties requirement for the administrative exemption, even if the employee does not have direct supervisory responsibility over the employees on the team.

An executive assistant or administrative assistant to a business owner or a senior executive of a large business generally meets the duties requirements for the administrative exemption if such employee, without specific instructions or prescribed procedures, has been delegated authority regarding matters of significance. (However, if the assistant’s duties are more secretarial/clerical, the exemption probably is not applicable.)

Purchasing agents with authority to bind the company on significant purchases are generally exempt administrative employees, even if they must consult with top management when making a purchase commitment, such as for raw materials in excess of the contemplated plant need.

V. RULES AS TO WHO IS AN EXEMPT LEARNED OR CREATIVE PROFESSIONAL EMPLOYEE

The “professional” exemption under the old rules has been split into two categories of exempt professionals: learned professionals and creative professionals. To qualify for the learned professional employee exemption, all of the following factors must be met:

• The employee must be compensated on a “salary” or “fee” basis (as defined in the regulations) at a rate not less than $455.00 per week;

• The employee’s primary duty must be the performance of work requiring advanced knowledge: work which is predominantly intellectual in character and requires the consistent exercise of discretion and judgment;

• The advanced knowledge must be in a field of science or learning; and

• The advanced knowledge must be customarily acquired by a prolonged course of specialized intellectual instruction. The exemption is generally restricted to professions where specialized academic training is a standard prerequisite for entrance into the profession. However, the exemption is also available to the occasional employee who has advanced knowledge through a combination of work experience and intellectual instruction. However, the exemption is not available for occupations that customarily may be performed with only the general knowledge acquired by an academic degree in any field, or with knowledge acquired through an apprenticeship, or with training in the performance of routine mental, manual, mechanical or physical processes. The exemption also does not apply to occupations in which most employees have acquired their skill by experience rather than by advanced specialized intellectual instructions.

Examples of learned professions include law, medicine, theology, accounting, actuarial computation, engineering, architecture, teaching, various types of physical, chemical and biological sciences, and pharmacy. The salary level and payment “on a salary basis” requirements do not apply to certain categories of learned professionals: teachers and practitioners of law or medicine.

To qualify as an exempt creative professional employee, all of the following factors must be met:

• The employee must be compensated on a “salary” or “fee” basis (as defined in the regulations) at a rate not less than $455.00 per week;

• The primary duty must be the performance of work requiring invention, imagination, originality or talent in a recognized field of artistic or creative endeavor.

VI. RULES AS TO WHO IS AN EXEMPT COMPUTER-RELATED EMPLOYEE

To qualify for the computer employee exemption, the following factors must be met:

• The employee must be compensated either on a “salary” or “fee” basis at a rate not less than $455.00 per week or, if compensated on an hourly basis, at a rate not less than $27.63 an hour;

• The employee must be employed as a computer systems analyst, computer programmer, software engineer or other similarly skilled worker in the computer field performing the duties described below;

• The employee’s primary duty must consist of one of the following:
  • (1) The application of systems analysis techniques and procedures, including consulting with users, to determine hardware, software or system functional specifications;

  • (2) The design, development, documentation, analysis, creation, testing, or modification of computer systems or programs, including prototypes, based on and related to user or system design specifications;

  • (3) The design, documentation, testing, creation or modification of computer programs related to machine operating systems, or

  • (4) A combination of the aforementioned duties, the performance of which requires the same level of skill.

VII. RULES AS TO WHO IS AN EXEMPT OUTSIDE SALESPERSON

To qualify as an exempt outside sales employee, all of the following factors must be met:

• The employee’s primary duty must be making “sales” (as defined in the Fair Labor Standards Act), or obtaining orders or contracts for services or for the use of facilities for which a consideration will be paid by the client or customer; and

• The employee must be customarily and regularly engaged away from the employer’s place or places of business.

VIII. RULES ABOUT PAYMENT ON A SALARY BASIS, REQUIRED TO BE EXEMPT (EXCEPT FOR OUTSIDE SALES PEOPLE)

To qualify as exempt, most employees must be paid on a “salary basis”. Being paid on a salary basis means that an employee regularly receives a predetermined amount of compensation each pay period on a weekly, or less frequent, basis. The predetermined amount generally cannot be reduced because of variations in the quality or quantity of the employee’s work. Subject to the exceptions listed below, an exempt employee must receive the full salary for any week in which the employee performs any work, regardless of the number of days or hours worked. Exempt employees do not need to be paid for any work week in which they perform no work at all. If the employer makes deductions from an employee’s salary, because of the operating requirements of the business, that employee is not paid on a “salary basis”. If the employee is ready, willing and able to work, deductions cannot be made for time when work is not available.

Deductions may be made without adversely affecting exempt status in the following circumstances:

• When an employee is absent from work for one or more full days for personal reasons other than sickness or disability;

• For absences of one or more full days due to sickness or disability if the deduction is made in accordance with a bona-fide plan, policy or practice of providing compensation for salary lost due to illness;

• To offset amounts employees receive as jury or witness fees, or for military pay;

• For penalties imposed in good faith for infractions of safety rules of major significance (Employers should be very careful in utilizing this exception; a safety rule of very major significance is probably required; an example given in the regulations is smoking in an explosives factory);

• For unpaid disciplinary suspensions of one or more full days imposed in good faith for violating written workplace conduct rules, such as rules prohibiting violence, drug or alcohol use, violation of state or federal laws, or unlawful harassment. Suspensions for performance or attendance issues would not qualify for this exception. The fact that an employee’s misconduct occurred off the employer’s premises would not preclude an employer from imposing a disciplinary suspension pursuant to this exception, as long as the employer had a bona-fide workplace conduct rule that covers such off-site conduct. Before utilizing this exception, employers should be sure they have a clearly established, written policy stating that employees may be suspended without pay for such conduct. The written policy need not include an exhaustive list of specific violations that could result in a suspension, or a definitive declaration of when a suspension will be imposed. The written policy should be sufficient, however, to put employees on notice that they could be subject to an unpaid disciplinary suspension for the conduct in question. The “written policy” requirement would be satisfied by a sexual harassment policy, distributed to all employees, which warns that violations of the policy will result in disciplinary action up to and including termination. Remember that suspensions in one-half day increments, such as for a half day, or for 1-1/2 days, would not be permissible under this exception.

• Employers are not required to pay the full salary in the initial or final week of employment, or for weeks in which exempt employees take unpaid leave pursuant to the Family and Medical Leave Act.

• Taking deductions from accrued leave accounts.

• Requiring exempt employees to record and track hours.

• Requiring exempt employees to work a specified schedule.

• Implementing across-the-board changes in schedules in response to an economic downturn at the company (Department of Labor opinion letters and legal counsel should be consulted before proceeding with such changes, however).

• Allowing an exempt employee to take a day off as a reward for hours worked on a weekend which would not fall within the employee’s normal work schedule.

• Providing exempt employees with a cash payment for overtime work in addition to the guaranteed salary.

• Providing shift or holiday pay differentials in addition to the guaranteed salary.

• Deduction for a partial day absence to attend a parent-teacher conference.

• Deduction of a day of pay because the employer was closed due to bad weather.

• Deduction of less than a week’s worth of days of pay because the employee was absent from work for jury duty, rather than merely offsetting any amount received as payment for jury duty.

• Deduction for a two-day absence due to a minor illness when the employer does not provide wage replacement benefits for such absences.

The 2004 regulations are less harsh on employers than were the previous rules with regard to the potential consequences of taking incorrect deductions from the salaries of exempt employees. For example, under the old rules, one unfortunate local employer paid a settlement of about $800,000 due to making a few incorrect deductions for snow days. This resulted in all of the company’s employees who performed the same job as the affected employees being deemed nonexempt, and the employer was required to pay massive amounts of back overtime and financial penalties.

Under the 2004 rules, an employer loses the exemption only if it has an “actual practice” of making improper deductions from salary. Isolated or inadvertent (e.g., as a result of a clerical error) improper deductions generally will not result in loss of the exemption if the employer promptly reimburses employees once the matter is brought to its attention. Factors that are considered in determining whether an employer has an “actual practice” of making improper deductions include: the number of improper deductions, particularly as compared to the number of employee infractions warranting deductions; the time period during which the employer made improper deductions; the number and geographic location of both the employees whose salary was improperly reduced and the managers responsible; and whether the employer has a clearly communicated policy permitting or prohibiting improper deductions. If an “actual practice” is found, the exemption will be lost only during the time period of the deductions, for employees in the same job classification who worked for the same managers who made the improper deductions. Thus, the exemption will probably not be lost for all similar employees company wide.

The 2004 regulations also provide employers with a safe harbor. If an employer:

• has a clearly communicated policy prohibiting improper deductions, which includes an employee complaint procedure;

• reimburses employees for any improper deductions; and

• makes a good faith commitment to comply in the future;

The regulations specify that the best evidence of a “clearly communicated” policy is a written policy distributed to employees prior to the improper pay deductions by such means as providing a copy of the policy to employees at the time of hire, publishing the policy in an employee handbook or publishing it on the company’s intranet.

The Commentary to the regulations give several examples of actions an employer could take to manifest “a good faith commitment to comply in the future”: adopting or republishing to employees its policy prohibiting improper pay deductions; posting a notice including such a commitment on an employee bulletin board or company intranet; providing training on the topic to managers and supervisors; reprimanding or retraining the manager who took the improper deductions; or establishing a telephone number for employee complaints.

X. SOME MEASURES EMPLOYERS SHOULD TAKE TO BE SURE THAT THEIR EXEMPT EMPLOYEES ARE CORRECTLY CLASSIFIED

Among the things employers should do to be sure that their exempt employees are correctly classified are the following:

• Employers need to thoroughly understand the exemption regulations in the revised form that took effect in 2004. (For example, an exempt executive employee must now have authority to hire or fire employees under his/her supervision, or his/her suggestions and recommendations with regard to hiring, firing, promotions or other employment status changes must be given “particular weight”. This was not an invariable requirement in the past.) Employers should review and revise written job descriptions, and make sure that they accurately reflect current job duties. Employers who have not already done so may wish to change or add certain employee job duties in order to ensure that the employees are exempt under the 2004 rules. For example, an employer may want to expressly give executive employees authority to hire and fire. Similarly, job descriptions may need to be reworded to make it clear that employees’ job duties qualify them for the exemption under which they are classified. For example, the job description of “administrative” employees should reflect that they exercise discretion and independent judgment concerning matters of significance.

• Employers should issue a written policy prohibiting improper deductions from being made from the salaries of exempt employees. The policy should also set forth a complaint procedure. It would be advisable for the policy to state that if a deduction is found to have been incorrectly made, the employee will be promptly reimbursed. It would be advisable to place this policy in the employee handbook and/or the employer intranet, if one exists.

• Employee handbooks, and other written policies and procedures, should be reviewed by an employment law attorney or other person knowledgeable about employment law to ensure that they do not contain policies or procedures which are inconsistent with payment of exempt employees on a salary basis. If such policies/procedures exist, they could constitute strong evidence that the employer has an “actual practice” of making improper deductions. For example, does your employee handbook state that if the employer closes the business due to a snow day or other emergency, employees will not be paid for that day? That would constitute an improper deduction from the salary of exempt employees.

• If you expect that you may want to suspend exempt employees without pay for time periods less than a week for prohibited conduct such as workplace violence or unlawful harassment, you should have written policies prohibiting such conduct, and stating that suspension without pay is one of the types of discipline which could be imposed on violators.

• Employers should review employee job duties at least every couple of years to be sure that their exempt employees are still actually performing the duties that justified their exempt status. It is not unusual for employment duties to change over time.

• Employers should review their written job descriptions at least every couple of years to be sure that they accurately describe employee job duties, and to be sure that they do not describe job duties of exempt employees in terms that would suggest to the Department of Labor that they are actually hourly employees. One of the first things that the Department of Labor will look at in conducting an audit is the employer’s job descriptions.