U.S. Department of Labor Announces New FairPay Rules

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1 April 30, 2004 U.S. Department of Labor Announces New FairPay Rules The Fair Labor Standards Act of 1938 (FLSA) requires that employers pay certain employees overtime pay, at time and one-half the regular rate of pay, for all hours worked over 40 hours in a workweek. However, Section 13(a)(1) of the FLSA provides an exemption from both minimum wage and overtime pay for employees employed as bona fide executive, administrative, professional and outside sales employees. Sections 13(a)(1) and 13(a)(17) also exempt certain computer employees from overtime pay. In order to qualify for these white-collar exemptions, employees generally must satisfy certain tests regarding their job duties and be paid on a salary basis at a certain minimum compensation level. Recognizing that its regulations implementing the FLSA were outdated and failed to address both workplace changes and federal case law developments over several decades, the U.S. Department of Labor (DOL) issued a Notice of Proposed Rulemaking on March 31, 2003, recommending significant changes to the Part 541 regulations, including an increase in minimum salary levels and changes to the duties tests. Public comment on the proposals was invited and the DOL received over 75,000 comments from employers, employees, trade associations, labor unions, government entities and others. Numerous changes to the proposed regulations were made as a result of the public commentary and, on April 20, 2004, U.S. Secretary of Labor Elaine L. Chao announced the final regulations, known as the FairPay rules, stating, Today, workers win. The [DOL s] new rules guarantee and strengthen overtime rights for more American workers than ever before. The FairPay rules impact millions of workers and their employers. The DOL estimates that overtime protection will be strengthened for more than 6.7 million workers. These changes, however, come at a cost to employers, specifically up to $375 million in additional annual payroll costs and $738.5 million in one-time implementation costs, which includes $627.1 million related to reviewing the revised regulations and revising existing overtime policies and $111.4 million related to conducting job interviews. The DOL considers this to be a small price to pay, forecasting that the new rules will reduce FLSA violations and save businesses an estimated additional $252.2 million per year. The following is a brief summary of the new FairPay rules, which take effect August 23, 2004: Salary Thresholds Minimum Salary Threshold: The FairPay rules nearly triple the minimum salary threshold requirement for whitecollar overtime exemptions. The current $155 per week minimum salary level, set back in 1975, increases under the new rules to $455 per week ($23,600 annually), a $30 increase over the proposed regulations. According to the DOL, this increase will result in overtime payments to 1.3 million currently exempt white-collar employees. Highly Compensated Employees: The FairPay rules provide an overtime exemption for highly compensated employees who customarily and regularly perform at least one of the duties of an exempt executive, administrative or professional employee identified in the new standard duties tests. Highly compensated employees must perform office or non-manual work and must earn at least $100,000 annually (which must include at least $455 per week paid on a salary or fee basis), a $35,000 increase over the proposed regulations. Duane Morris - Firm and Affiliate Offices New York London Chicago Houston Philadelphia San Diego San Francisco Detroit Boston Washington, D.C. Atlanta Miami Pittsburgh Newark Allentown Wilmington Cherry Hill Harrisburg Bangor Princeton Westchester Duane Morris LLP - A Delaware limited liability partnership

2 2 Standard Duties Tests The FairPay rules abolish both the long and short duties tests for employees meeting the minimum salary threshold of $455 per week, replacing them with one standard test for each exempt employee category. The new tests narrow the executive exemption, clarify the professional exemption and broaden the outside salesperson exemption. Executive Exemption: The final standard test for the executive employee exemption is as follows: the employee must be compensated on a salary basis at a minimum of $455 per week; the employee s primary duty is management of the enterprise, or a customarily recognized department or subdivision thereof, in which the employee is employed; the employee must customarily and regularly direct the work of at least two full-time employees or their equivalent; and the employee must have the authority to hire or fire employees, or the employee s suggestions and recommendations as to the hiring, firing, advancement, promotion or other change of status of other employees must be given particular weight. This requirement is taken from the current long duties test. Business Owner Exemption: Employees who own at least 20 percent equity interest in the enterprise in which they are employed and who actively engage in its management are exempt executives under the final regulations. Administrative Exemption: The final standard test for the administrative employee exemption is significantly different than that originally proposed (though similar to the current short test). The DOL removed the position of responsibility language and added a requirement of exercise of discretion and independent judgment as to matters of significance: the employee must be compensated on a salary basis at a minimum of $455 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 either the employee s employer or its customers; and the employee s primary duty includes the exercise of discretion and independent judgment with respect to matters of significance. o Educational establishments and administrative functions: Employees whose primary duties are performing administrative functions directly related to academic instruction or training in an educational field, who are compensated on a salary or fee basis at a minimum of $455 per week, qualify as exempt administrative employees. Professional Exemptions: Professional employees exemptions include both learned professionals and creative professionals. The final standard test for the learned professional employee exemption is as follows: the employee must be compensated on a salary or fee basis at a minimum of $455 per week; and the employee s primary duty is the performance of work requiring advanced knowledge (work which is predominantly intellectual and requires consistent exercise of discretion and judgment) in a field of

3 science or learning (including law, medicine, accounting, engineering, architecture, teaching, sciences and other occupations with a recognized professional status) customarily acquired by a prolonged course of specialized intellectual instruction. The final standard test for the creative professional employee exemption is as follows: the employee must be compensated on a salary or fee basis at a minimum of $455 per week; and the employee s primary duty is the performance of work requiring invention, imagination, originality or talent in a recognized field of artistic or creative endeavor, which includes acting, music, writing and graphic arts. Computer Employee Exemption: The final standard test for the computer employee exemption, functionally identical to the current regulations and statute, is as follows: the employee is compensated either on a salary or fee basis at a minimum of $455 per week or on an hourly basis at a minimum of $27.63 an hour; the employee is employed as a computer systems analyst, computer programmer, software engineer or other similarly skilled worker in the computer field; and the employee s primary duty consists of (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 skills. Outside Sales Exemption: The FairPay rules delete the current 20 percent limitation on nonexempt work permitted to be performed by exempt outside salespeople. The final standard test for the outside sales employee exemption is as follows: the employee s primary duty is making sales or obtaining orders or contracts for services or for the use of facilities for which consideration will be paid by the client or customer; and the employee is customarily and regularly engaged away from the employer s place or places of business. Exemptions Not Applicable to Certain Occupations Section 541.3(a) of the final regulations expressly provides that the FLSA s white-collar exemptions do not apply to manual laborers or other blue-collar workers who perform work involving repetitive operations with their hands, physical skill and energy, regardless of compensation. Thus, non-management production-line employees and nonmanagement employees engaged in maintenance, construction and related occupations, including carpenters, electricians, mechanics, plumbers, iron workers, craftsmen, operating engineers, longshoremen, construction workers and laborers are entitled to the FLSA s minimum wage and overtime pay. Similarly, Section 541.3(b) of the final regulations expressly excludes public safety employees, such as police officers, fire fighters, paramedics, emergency medical technicians and others from the white-collar exemptions. Licensed Practical Nurses are also deemed to be nonexempt workers. 3

4 4 Salary Basis, Deductions and Additional Pay Exempt employees generally must be paid a minimum of $455 per week on a salary basis. An employee s predetermined salary cannot be reduced due to variations in the quality or quantity of the employee s work. Generally, an exempt employee must receive full salary for any week in which the employee performs any work without regard to the number of days or hours worked. However, certain deductions from salaried exempt employees compensation may be made. For example, under the final regulations, the employer may make deductions from pay for exempt employees full-day absences occasioned by personal reasons other than sickness or disability. Deductions from pay also can be made for absences of one or more full days occasioned by sickness or disability if the deduction is made in accordance with a bona fide sick or disability plan, policy or practice, under circumstances where such benefits have been exhausted or have not yet accrued. In addition, while employers cannot make deductions for absences during a week where an exempt employee has worked but is absent for temporary military leave, jury duty or attendance as a witness, they can offset military pay and jury or witness fees paid to the employee. Furthermore, deductions may be made for full-day disciplinary suspensions or for major safety rule infractions, without loss of exempt status. The new regulations also make clear that an exempt employee can be paid additional compensation for additional work above 40 hours a week even on an hourly basis so long as the basic weekly salary of at least $455 is paid without regard to hours worked. Safe Harbor An employer who has an actual practice of making improper salary deductions will lose the exemption during the period of time in which the deductions were made for employees in the same job classification working for the same managers responsible for the deductions. However, there is a safe harbor provision in the FairPay rules which protects exempt status in the case of inadvertent or accidental deductions that are quickly corrected. Further, under the safe harbor provision, on the condition that the employer (1) has a clearly communicated (preferably written) policy which prohibits improper deductions and includes a complaint mechanism, (2) reimburses its employees for any improper inadvertent deductions, and (3) makes a good faith commitment to future compliance therewith, the employer will not lose its exemption for employees unless the employer willfully violates its communicated policy by continuing to make improper deductions following employee complaints. Thus, employers now have every incentive to review or implement salary policies to take advantage of the safe harbor provision. State Laws and Collective Bargaining Agreements New Section of the final regulations clarifies that the FLSA s minimum standards may be exceeded by employers either on their own or through collective bargaining agreements; however, those standards cannot be waived or otherwise reduced. Employers are required to comply with state or local laws, which may provide worker protections above and beyond those set forth by the FLSA, such as a higher minimum wage or lower maximum workweek.

5 5 For Further Information Since the new regulations take effect in less than four months, it is never too early to begin reviewing and revising your salary and overtime policies and job descriptions to comply with the FairPay rules. We can help you deal with the implications of these new regulations on your operations. We routinely assist employers in developing compensation and related employment policies, in drafting job descriptions and in auditing compliance with wage and hour laws. If you have any further questions regarding these new regulations, or how they will impact your business, please contact one of the members of the Employment, Benefits and Immigration Practice Group or the lawyer in the firm with whom you are regularly in contact. Duane Morris Employment, Benefits and Immigration Practice Group Philadelphia Thomas G. Servodidio, Practice Chair Jane Leslie Dalton Homer L. Elliott Barbara W. Freedman W. Michael Gradisek Bruce J. Kasten John A. Reade, Jr. Paul D. Snitzer New York Maria Cilenti Eve I. Klein Chicago Cheryl Blackwell Bryson Lawrence I. Davidson Kevin V. Dunphy Howard L. Mocerf Jon Zimring San Diego Jennifer A. Kearns San Francisco Timothy W. Moppin Lisa Spiegel Julia L. Stommes Clark M. Trevor Washington, D.C Burton J. Fishman Denyse Sabagh Atlanta Terry P. Finnerty John S. Snelling Miami Harvey W. Gurland, Jr. Pittsburgh James P. Hollihan Newark Paulette Brown Cherry Hill Kathleen A. O Malley Princeton M. Elaine Jacoby T. Gary Mitchell