--------------------------------------Understanding the FLSA and its Overtime Pay Requirements

By Scott Dondershine

I. Introduction.

Congress adopted the Fair Labor Standards Act (the “FLSA”) in the late 1930s as part of President Roosevelt’s New Deal to produce higher levels of employment among the adult work force. Today, disgruntled employees often use the protections provided by the FLSA as a linchpin to turn a marginal case for wrongful discharge or some other adverse employment action into a successful action for severance pay or other financial redress. Corporate counsel needs to assist employers in complying with the FLSA to eliminate its use in claims alleging inappropriate employment decisions.

The scope of this article is limited to a general discussion of the overtime pay requirements under the FLSA and should not be relied upon for legal advice. First, the employees exempt from the overtime pay requirements are described, then the methods for computation of overtime pay, the record-keeping requirements and the remedies. Finally, some common pitfalls in applying the overtime pay requirements are explained.

II. Employees Exempt from the

FLSA Overtime Pay

Requirements.

The overtime pay requirements apply to all employees employed in an enterprise engaged in commerce or in the production of goods for commerce, unless an employer proves by clear and convincing evidence that an employee is exempt. Clark v. J.M. Benson Co., 789 F.2d 282, 286 (4th Cir. 1986). While there are several categories of exempt employees, most exemptions are narrow, applying only to certain specified special interest groups. The more commonly used exemptions are the white-collar and outside salesman exemptions discussed below.

A. White-Collar Exemptions.

Any employee meeting the applicable “short test” and employed in a bona-fide executive, administrative or professional capacity is exempt from the overtime pay requirements under the so-called “white-collar” exemptions. Although an employee can alternately meet a “long test,” the long test is generally obsolete since virtually all employees meeting the short test will also pass the long test.

The short test for an executive is generally met if the employee is paid a weekly salary of $250 or more and meets the primary duties test by managing or supervising two or more employees. 29 C.F.R. § 541.1 (1998). It usually is not difficult to determine whether employees are performing managerial or supervisory functions -- they direct, control and evaluate the work of subordinates and can at least make suggestions and recommendations that will be given particular weight in determining whether a person should be hired, fired or promoted.

Two errors are commonly made in misclassifying persons as executives. First, a manager has to spend at least fifty percent (50%) of his or her time supervising employees. 29 C.F.R. § 541.103 (1998). This eliminates a lot of persons who perform substantial regular duties in addition to supervising employees. Secondly, an executive has to supervise two or more employees and, therefore, the head of a one-person department cannot be an executive.

Administrators generally are exempt under the short test if they are paid at least the same salary threshold as executives ($250 per week – usually, not a problem in today’s economy) and satisfy a primary duties test by performing office or non-manual work directly related to management policies or general business operations. Such work has to also involve the exercise of discretion and independent judgment. 29 C.F.R. § 541.2 (1998). Work that simply requires a skill without the use of discretion and independent judgment like that of inspectors, lumber graders, receptionists and clerical workers does not satisfy this requirement. Examples of typical administrators include: (1) executive secretaries who assist executives or administrative officials in the performance of their duties, exercising discretion and independent judgment in the process, (2) persons who act in a staff or functional capacity like an advisory tax expert or a personnel director, and (3) persons who perform special assignments, often away from the employer’s premises, such as buyers and traveling auditors.

Finally, professionals are exempt if they are paid at least the same $250 weekly salary as executives or administrators and also meet the primary duties test. A professional generally meets the primary duties test by performing work requiring knowledge of an advance type in a field of science or learning, by teaching, or by rendering services that require application of knowledge in the computer software field. 29 C.F.R. § 541.3 (1998). Professionals include teachers, computer programmers, software engineers, attorneys and doctors.

Although as discussed above the white-collar exemptions generally only apply to employees paid a salary, there are two important exceptions for professionals. The first exception is that attorneys, doctors, medical interns or residents or teachers do not have to be paid a salary. 29 C.F.R. § 541.3(e) (1998). Secondly, computer software professionals, do not have to be paid a salary provided that they are paid at least $27.63 per hour. 29 U.S.C.A. § 213(a)(17) (1998).

An employee paid a salary has to receive his full salary for any week in which work is performed without regard to the work's quality or quantity. As discussed below, an employer may not reduce the salary of an employee for absences of less than a day, a practice called “docking.” Deductions are also not permitted if an employee is “ready, willing and able to work,” but the employer cannot utilize the services of the employee due to the operating requirements of the business. 29 C.F.R. § 541.118 (1998).

Deductions may, however, be made if the employee is absent from work for a day or more for personal reasons (not including sickness or disability). Deductions for sickness or disability are permitted if made pursuant to a plan of providing paid sick or disability leave but the employee has exhausted his or her paid sick or disability leave or has not yet qualified for leave under the plan. Deductions can also be made if an employee qualifies for separate benefits under an employer-provided disability plan and the employee receives such benefits in lieu of salary. Several other exceptions apply and it is important to carefully read the rules to prevent converting an otherwise exempt white-collar employee into a non-exempt employee. 29 U.S.C.A. § 541.118 (1998).

B. Outside Salesmen.

Outside salesmen are also exempt. Outside salesmen are persons employed for the purpose of making sales or obtaining orders or contracts for services if the employee is customarily and regularly away from the employer’s place of business. 29 C.F.R. § 541.5 (1998). Employees who work at the employer's place of business making sales either in person or by telephone generally do not qualify for this or any of the white-collar exemptions discussed above.

III. Computation of Required

Overtime Pay.

As discussed above, if an employee is not exempt, then he or she has to receive overtime pay of at least one and one-half times his or her regular hourly rate of pay for any hours worked in a workweek in excess of forty hours. The regular hourly rate of pay for a particular workweek is equal to the total compensation paid for such week divided by the number of hours actually worked in such week. 29 C.F.R. § 778.109 (1998). It is important in determining total compensation to include all remuneration paid to or on behalf of an employee, other than certain gifts and bonuses and compensation for overtime, holiday or sick leave. 29 U.S.C.A. § 207(e) (1998). For a bonus to be excluded from total compensation, the employer has to have the sole discretion as to its payment and amount. In addition, payment of the bonus has to be made at or near the end of the period covered by the bonus since the employee can not have any contractual expectation as to its payment. Examples of such bonuses include holiday and profit-sharing bonuses.

The next step in the overtime pay computation is to convert total compensation into a “regular hourly rate.” The conversion method depends upon whether the employee is paid on a piece-rate, salary, commission, or other basis. The Code of Federal Regulations provide the following examples for making the conversion:

A. The regular rate of an hourly paid employee is relatively simple to compute. If Peter, a non-exempt employee, earns $6 per hour and works 46 hours in a particular workweek, then his pay for such week has to be at least $294 ($6 x 46; plus $3 x 6). If for the same week Peter also receives a production bonus of $9.20, then his total remuneration for the week based upon his regular rate of pay would equal $285.20 ($6 x 46 + $9.20) and his regular hourly rate would be $6.2 ($285.20 / 46 = $6.20). Peter would have to receive at least $18.60 ($6.20 / 2 = $3.10 x 6 hours = $18.60) in addition to receiving his $285.20 of regular compensation. 29 C.F.R. § 778.110 (1998).

B. The regular hourly rate for a pieceworker is computed by dividing the worker’s total earnings for the workweek from piece rates and other sources (such as production bonuses) by the total number of hours worked. If Samantha, a non-exempt worker, works 50 hours and earns $245.50 at piece rates for 46 hours and $5 an hour for 4 hours of waiting time, then her total compensation of $265.50 is divided by 50 hours to determine her regular hourly rate of pay of $5.31. Samantha also has to receive at least $26.55 ($2.655 x 10) of overtime pay. 29 C.F.R. § 778.111 (1998),

C. The regular hourly rate for an employee paid a salary for a set number of hours that the employee is expected to work is computed by dividing the salary by the number of hours which the salary is intended to compensate. For instance, if George receives a salary of $182.70 for 35 hours per week, then his regular hourly rate of pay equals $5.22. If George works 45 hours in a particular week, then he has to receive at least $182.70 for the first 35 hours, $5.22 per hour for the next five hours, and $7.83 per hour for the hours worked in excess of forty hours. Salary covering periods longer than a workweek, e.g. a month, has to be reduced to its workweek equivalent. For instance, a monthly salary is first multiplied by 12 to obtain the annual salary and is then divided by 52 to obtain the weekly salary. 29 C.F.R. § 778.113 (1998).

D. The regular hourly rate for a salaried employee paid a fixed salary regardless of the number of hours worked in a workweek equals the fixed salary divided by the number of hours actually worked in a particular workweek. The regular hourly rate will, consequently, vary depending upon the number of hours worked in a particular week. 29 C.F.R. § 778.114 (1998).

I. Commissions are also included in an employee's regular rate of pay. However, since payment of commissions is often deferred until the commissions can be ascertained the employer may disregard the amount of commissions until they are actually paid. When the amount of commissions are determined, they are apportioned over the period during which they were earned. Additional overtime compensation may be due as a result of inclusion of the commissions in an employee’s regular rate of pay during such period. 29 C.F.R. § 778.119 (1998). For example, assume that Tom, a non-exempt employee, earns $6 per hour and works 46 hours in a particular week. He also earns $92 in commissions that are not computed until the following month. Tom must be paid $294, excluding commissions, based upon working the 46 hours ($6 x 46; plus $3 x 6). When the amount of his commissions are computed, he must be paid additional overtime pay based upon an increase in his regular hourly rate of $2 ($92 / 46 = $2). Multiplying one-half of $2 times the six overtime hours results in additional compensation due of $6.

IV. Record-Keeping

Requirements.

Any employer subject to the FLSA provisions has to make, keep and preserve certain records relating to its employees. 29 U.S.C.A. § 211(c) (1998); 29 C.F.R. 516 (1998). While the specific records that need to be maintained depend upon the circumstances involved, an employer should maintain the records needed to prove compliance with the FLSA, including the records necessary to support that a particular employee is exempt and has been paid for all time worked. Basic records such as payroll records and employment agreements have to be preserved for at least three years. Supplemental records such as time and earning cards or sheets have to be preserved for only two years. 29 C.F.R. 779.514 (1998).

V. Remedies.

An employer failing to comply with the FLSA can be held liable for the unpaid overtime pay, attorney fees, costs, and liquidated damages. The amount of liquidated damages can be equal to the amount of unpaid overtime compensation so that liable employers have to pay double the amount of unpaid compensation. 29 U.S.C.A. § 216(b) (1998). Civil penalties also can be assessed, and any person willfully violating any of the provisions of the FLSA can be imprisoned for not more than 6 months and be fined not more than $10,000. 29 U.S.C.A. § 216(a) (1998).

Individual employees, a group of employees or the United States Department of Labor on behalf of an individual or a group of employees can file a lawsuit seeking to recover unpaid wages or damages. A lawsuit can be filed in Federal or state court. The Department of Labor also can audit payroll records either as a result of a complaint or a random audit. A lawsuit based upon a violation of the FLSA must be bought within two years of the date of the alleged violation, except in cases of willful violations in which case the statute of limitations is three years. 29 U.S.C.A. § 255 (1998).

VI . Common Pitfalls.

Counsel must be aware of the following pitfalls that could inadvertently cause an otherwise exempt employee to be non-exempt.

A. Docking.

As discussed above, the white-collar exemptions generally only apply if an employee is paid on a salary basis. An employee paid a salary may still be considered an “hourly” employee and thereby non-exempt if there is either an actual practice of making deductions for partial day absences against the weekly salary or an employment policy that creates a ‘significant likelihood’ of such deductions. Auer v. Robbins, 117 S.Ct. 905, 911 (1997). This is called “docking.” Until the United States Supreme Court’s decision in Auer there was a great deal of uncertainty as to the circumstances under which deductions from salary for absences of less than a day converted an otherwise exempt employee into a non-exempt employee. Some jurisdictions held that an employment policy that merely permitted deductions for partial day absences converted an exempt employee into a non-exempt employee. Other courts required that actual deductions be made to warrant conversion. The Auer court adopted a compromise position specifying that a clear and particularized policy that effectively communicates that deductions will be made in specified circumstances is sufficient to convert an otherwise exempt employee into a non-exempt employee. Id.

Even if an employer is found to have wrongfully docked an employee’s pay, the “window of corrections” provides the employer with a means to avoid liability. “[W]here a deduction not permitted by these interpretations is inadvertent, or is made for reasons other than lack of work, the exemption will not be considered to have been lost if the employer reimburses the employee for such deductions and promises to comply in the future.” 29 C.F.R. § 541.118(a)(6) (1998). A very recent case applied the “window of corrections” in holding that improper payroll deductions occurred with enough frequency and regularity that they cannot be characterized as inadvertent. See Belton v.

Sigmon, No. 97-0053-D, VLW 098-3-313 (W.D. Va. 1998).

B. Compensatory Time.

Related to the issue of docking, is the improper use of compensatory time. Under the FLSA, private employers are forbidden from granting “compensatory time” to their non-exempt employees in lieu of required overtime compensation. Although an employer can provide its non-exempt staff with compensatory time, the total number of hours worked in a week cannot exceed 40. The improper use of compensatory time for exempt employees can also convert an otherwise exempt employee into a non-exempt employee.

C. Averaging.

Since an employee’s regular hourly rate of pay is determined on a weekly basis, an employer can not average the hours worked in multiple weeks in computing the number of hours for which overtime compensation has to be provided. 29 C.F.R. § 778.104 (1998). For instance, assume that an employee is paid every two weeks and works 80 hours. At first glance, no overtime compensation would be due. However, if the employee works 32 of the 80 hours in one week and the remaining 48 hours in the following week, the employee would be due overtime compensation for the eight hours worked in excess of 40 in the second week.

D. Unrecorded Overtime.

In some organizations, employees are prohibited from working more than 40 hours per week without prior authorization. Even though employees are expected to complete projects in a timely fashion, employees are often reluctant to go through the process of having overtime authorized since the need for overtime is sometimes viewed as an indication of mismanagement or inefficiency. Employees who want to timely complete projects can, therefore, be induced into working the overtime without recording the hours worked, a habit referred to as “ghosting.” Even though the number of "ghosted" hours in a week may be minimal, the aggregate number of ghosted hours in an employee’s career may be significant. Supervisors should carefully monitor the hours worked by their non-exempt employees to make sure that all hours are recorded and compensated.

VII. A Final Word.

Compliance with the FLSA overtime provisions requires knowledge of who is an exempt employee, who has to be paid overtime pay, and how to compute any earned overtime. Corporate counsel needs to be aware of the issues discussed in this article in order to assist employers in complying with the FLSA. Failure to comply with the FLSA will only decrease the leverage of employers addressing complaints of wrongful discharge or some other adverse employment action and result in an increase in claims for unpaid wages, liquidated damages, attorney fees, and potentially, civil and criminal penalties.

About the Author

Scott A. Dondershine focuses on business and tax law issues for the law firm of McMahon, David and Brody located in Vienna, Virginia. He has significant experience structuring complex transactions and drafting contracts for businesses and individuals. Scott is licensed to practice law in Virginia, Maryland and the District of Columbia and is also a Certified Public Accountant. McMahon, David and Brody provides government contracting, business and tax law services for clients located throughout the Washington Metropolitan Area.