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New Overtime Rule: Evaluating Your Options for Compliance

The U.S. Department of Labor (DOL) recently released a final rule that will increase the minimum salary required for employees to be exempt from overtime. The final rule takes effect January 1, 2020. With less than 90 days before the rule takes effect, now is the time to evaluate your options.

Overview

Effective January 1, 2020, the minimum salary for the administrative, professional, and executive exemptions will increase from $455 per week to $684 per week (equivalent to $35,568 per year). Note: Employees must also satisfy certain duties tests to be classified as exempt from overtime, but the new rule didn't change these duties tests.

Beginning January 1, 2020, employers will also be allowed to use nondiscretionary bonuses, incentive payments, and commissions to satisfy up to 10 percent of the minimum salary requirement, as long as these forms of compensation are paid at least annually.

If your exempt employees' salaries fall below the new federal salary requirement, you will generally either have to:

  • Raise their salaries to the new requirement (if you elect this option, review employees' job duties to ensure they continue to qualify for the applicable exemption); or
  • Reclassify the affected employees as non-exempt and pay them overtime whenever they work more than 40 hours in a workweek.

Below we cover these options in detail.

Options for Compliance

Option 1: Raising Salaries

This option may be more cost-effective if the employee's current salary is already close to the new minimum and/or they regularly work more than 40 hours per week. If you elect to raise an exempt employee's salary to meet the new minimum, review their job duties to ensure they continue to qualify for an exemption. You can use our calculator to estimate the costs of this option by simply entering employees' current salaries.

You'll also want to consider the impact on internal pay equity and morale. If you substantially increase some employees' pay, other employees may have questions about why their pay isn't increasing.

Factoring in Nondiscretionary Bonuses:

If you intend to provide your exempt employees with nondiscretionary bonuses, incentive payments, or commissions, factor this in when calculating the potential costs of raising their salaries.

Under the final rule, employers are permitted to pay at least 90 percent of the minimum (or $615.60) in the form of salary each week and up to 10 percent of the minimum (or $68.40) in nondiscretionary bonuses, provided they're paid at least annually. For example, an employer could satisfy the minimum salary requirement by paying an employee a weekly salary of $615.60 and then a year-end productivity bonus of $3,556.80 ($68.40 x 52 weeks).

When evaluating whether to adopt such a pay structure for exempt employees, make sure you can administer it in accordance with the rule. If there is a shortfall (even as little as a penny) at the end of the year, the employer would have one pay period to make up the difference. If the employer fails to do so, the employee may be considered non-exempt and entitled to overtime for the previous year.

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Option 2: Reclassifying Employees

If exempt employees don't meet the new salary requirement, you can reclassify them as non-exempt and pay them overtime whenever they work more than 40 hours in a workweek.

This option may be cost-effective if employees' current salaries are far below the new requirement and/or they rarely work overtime. If so, simply convert their salary to an hourly wage (divide their weekly salary by 40 hours). However, if these employees regularly work more than 40 hours per week and you want to keep your compensation costs the same, then you would need to account for the overtime premium when you reclassify them as non-exempt.

To take this cost-neutral approach, you can use this simple formula:

Weekly Salary
[40 hours + (Overtime Hours Worked Per Week x 1.5)]

Here's an example:

An exempt employee's current salary is $550 per week, the employee regularly works 50 hours per week, and you want to convert this employee to an hourly employee but keep your costs the same. You would calculate the hourly wage as follows:

$550 weekly salary

= $10 hourly rate

[40 hours + (10 overtime hours x 1.5)]

This employee would be paid $10 per hour for the first 40 hours and $15 per hour ($10 x 1.5) for each hour of overtime. Remember, whatever hourly rate you decide to pay reclassified employees, it must meet or exceed the highest applicable minimum wage (federal, state, or local).

Our calculator can help you estimate the costs of reclassifying employees based on the information you provide regarding employees' current salaries and the average amount of overtime hours you expect them to work.

Because some employees consider being exempt more prestigious, it's possible they may consider reclassification somewhat of a demotion. That's why it's important to have an effective communication plan before making changes.

Note: Employers have the option of paying non-exempt employees on a salary basis as long as the employee is paid at least the minimum wage for all hours worked and overtime when they work over 40 hours in a workweek. If you pay non-exempt employees on a salary basis, you must ensure that all time worked is accounted for and that the employee is paid overtime when due.

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Options for Highly Compensated Employees:

There is also a special exemption for "highly-compensated employees" who are paid a total annual compensation of at least $100,000 (until January 1, 2020) and regularly perform at least one of the exempt duties or responsibilities of an exempt executive, administrative, or professional employee.

On January 1, 2020, the final rule increases the total annual compensation requirement to $107,432 per year (at least $684 must be paid on a weekly salary basis). For this exemption, employers are already allowed to include commissions, nondiscretionary bonuses, and other nondiscretionary compensation toward meeting the total annual compensation requirement, but there is no 10 percent cap like with the other exemptions. As long as the employer pays the employee at least $684 on a weekly salary basis, the employer will be able to count these other forms of compensation toward meeting the minimum total compensation requirement ($107,432 per year).

If your exempt highly compensated employees' weekly salary is less than $684, you generally must either raise their salaries to $684 per week or reclassify them as non-exempt. If your exempt highly compensated employees' weekly salary is at least $684 but their total annual compensation is less than $107,432, you generally have three options:

  • Raise their total annual compensation to $107,432 (if you elect this option, review employees' job duties to ensure they continue to qualify for the highly compensated employee exemption);
  • Reclassify the affected employees as non-exempt and pay them overtime whenever they work more than 40 hours in a workweek; or
  • Apply the full duties tests of the administrative, professional, or executive exemptions.  If the employee satisfies the full duties test of one of these exemptions, you can classify them as exempt under one of these exemptions and keep your compensation costs the same by simply meeting the new weekly salary requirement for those exemptions rather than raising their total annual compensation to $107,432. If the employee cannot fully satisfy one of the duties tests, then select one of the first two options.

Conclusion:

To evaluate your options, you need to have an accurate picture of the hours that employees work. Don't forget that hours worked includes not only time actually spent working but certain nonproductive time as well, such as rest breaks, training time, and travel time. For example, if you have an exempt employee who does a lot of business travel, you may face paying that employee for a good amount of overtime hours if you were to reclassify them as non-exempt. Remember that you don't have to choose the same option for all impacted employees. You may choose to reclassify some employees but increase the pay of your other employees in order to keep them exempt, provided they still satisfy the duties tests.

New overtime rules effective January 1: How to comply

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