Neither fish nor fowl
Salaried with overtime
Brings pain and regret

We don’t see a lot of wage and hour poetry these days, but if we did, it would probably look a bit like the foregoing example from an anonymous former U.S. Department of Labor official.  When it comes to paying office workers who do not qualify for an overtime exemption, businesses often look for ways to treat those workers as much like exempt personnel as possible, including by paying wages in the form of a salary rather than hourly pay.  Salaried nonexempt status ordinarily starts with good motives, but it frequently ends with claims for unpaid overtime.  In this month’s Time Is Money segment, we explain that although paying overtime-eligible employees on a salary basis is a lawful, available option, it comes with significant risks that an employer must understand and navigate in order to pay these workers correctly.

Workers, broadly speaking, value the security that comes with receiving a guaranteed amount of pay each week that is not subject to significant peaks and troughs based on short-term shifts in the workload.  Receiving a salary is also a badge of status and success insofar as it aligns with how typical “white collar” employees receive their pay, as compared to the hourly pay that “blue collar” workers ordinarily earn.

Employers, in turn, tend to prefer the relative predictability of labor expense associated with salaried employees.  Businesses want their office staff to feel and behave in a manner consistent with a professional environment, including viewing their work in terms of doing what is necessary to get the job done rather than simply getting paid for the time the employer requires them to spend on job-related tasks.  Employers view paying non-exempt staff on a salary basis as a way of showing them respect and treating them like valued members of the team.

The key thing to remember, however, is that salaried nonexempt employees remain entitled to premium pay for overtime hours.  Employers must maintain accurate records of, among other things, the time these employees work each day and each workweek, and they must pay accordingly.  (Some states, including California, require that employers record the times when nonexempt employees begin and end each workday, including when meal periods are taken, as we discussed here.)  Under federal law and the law of most states, the minimum requirement for paying overtime to salaried nonexempt employees involves the so-called “fluctuating workweek” method, a calculation that treats the salary as providing “straight time” wages for all hours worked, followed by paying an additional one half of the employee’s average hourly earnings for each hour of overtime worked.

For example, if an employee has a $500 weekly salary and works 50 hours in a particular week, the fluctuating workweek method views the situation the same as if the employee had earned $10 per hour for every one of those 50 hours.  Then the employee would receive an additional one half of that amount, or $5, for each of the 10 hours worked in excess of 40 for the week, amounting to a $50 overtime payment along with the $500 salary for the week.  For more information about the various requirements for using this method to pay overtime under federal law, see 28 U.S.C. § 778.114.

If, however, the employer’s use of the fluctuating workweek method turns out after the fact to be invalid under federal or state law, the result can be significant liability for overtime.  In circumstances where the fluctuating workweek is unavailable, employers ordinarily do not find it worthwhile to have employees in a salaried nonexempt status unless those workers ordinarily do not work sufficient hours to trigger premium overtime obligations.  It is therefore critical for employers to make an informed choice up front regarding whether to have salaried nonexempt employees and, if so, how to pay for their overtime.

The key compliance considerations for employers who have, or who are considering having, salaried nonexempt employees are the following:

1. Not every state allows employers to use the fluctuating workweek method to pay overtime.

Several states, including Alaska, California, New Mexico, Pennsylvania, and Virginia bar the use of this method of calculating overtime.  In most, if not all, of those states, the law treats a non-exempt employee’s salary as covering only the first 40 hours or work in a week, resulting in a requirement that the employer treat the employee’s average hourly rate, or what is known as the “regular rate,” as one fortieth of the weekly salary, rather than dividing the salary by the actual (and higher) number of hours worked in the week.  In addition, and of even greater consequence for the overtime calculation, the employer in this scenario must ordinarily pay one and a half times that larger regular rate, rather than just one half of the regular rate, for each overtime hour.

Thus, using the same example as above involving an employee with a $500 weekly salary who works 50 hours in the week, but who works in California, the employee’s regular rate would be $12.50 per hour (rather than $10), and the overtime due would be 1.5 times that amount, or $18.75, per overtime hour (rather than $5).  The employer would have to pay the employee $187.50 in overtime premium for the week (assuming no more than 10 daily overtime hours and no double-time hours under California’s special daily overtime rules) on top of the $500 salary, or 3.75 times the overtime premium required under federal law.

It is, therefore, very important that employers be aware of the pertinent state law before electing to pay a non-exempt employee on a salary basis.

2. Many judges seem to dislike the fluctuating workweek overtime concept.

Because one effect of paying employees using the fluctuating workweek is that the regular rate declines as the employee works more hours in the week by virtue of spreading the fixed salary across more hours, leading to less additional pay for each incremental hour worked beyond 40, many judges appear to be quick to conclude that an employer’s use of the fluctuating workweek fails one or more of the standards in the pertinent federal regulation.  Some judges even invoke requirements that the courts have read into the regulation that do not appear as express conditions for using the fluctuating workweek.

To these judges, the declining regular rate seems unfair to the workers.  And certain judges seem to have a difficult time grasping the notion that paying a salary plus an additional one half of the regular rate for each overtime hour constitutes paying full time and a half for the overtime hours.  Instead, some courts seem to think of fluctuating workweek overtime as providing only half-time pay for the overtime hours, even though the salary already provides the straight-time component of the pay.  There are few situations in modern jurisprudence less conducive to generating justice than a bunch of lawyers and a federal judge debating math.

Given the element of judicial hostility to the fluctuating workweek, there is a heightened level of risk associated with using this pay method even in the many jurisdictions where the law permits it.  And as noted above, if a court concludes that an employer has used the fluctuating method improperly, the result can be the imposition of significant backwage liability, often in line with the calculation described above for California law.

3. The law is notoriously vague regarding whether and when an employer can make deductions from a salaried non-exempt employee’s pay.

A common mistake that employers make is to assume that the same litany of permissible salary deduction scenarios that exist for salaried exempt employees (see 29 C.F.R. § 541.602(b))—for example, full-day absences due to personal reasons other than sickness or disability—are also available for salaried non-exempt employees.  (For a refresher on permissible deductions and complying with the salary basis requirement, please see our prior posts here and here.)  The U.S. Department of Labor and the courts seem to disagree with that view, instead permitting salary deductions only in very limited circumstances, such as “willful” absences, whatever that means.

If an employer makes deductions from the pay of a salaried nonexempt employee that do not fall within the limited range of deductions the Department of Labor and the courts recognize for these workers, the consequence may be a ruling that the employee’s pay is not truly on a salary basis, and thus that fluctuating workweek overtime is unavailable.  That finding, in turn, can lead to a backwage finding akin to the example described above for the California employee.

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Salaried nonexempt status is a long-recognized way of paying people, and it works just fine if an employer knows and follows all of the rules.  But it is also an area where it is very easy to make costly mistakes.  For this reason, fewer and fewer businesses seem to see value in salaried nonexempt status, except perhaps for employees who tend to work little or no overtime.  The bottom line is that if you are going to pay workers this way, you need to do it right, or else you will end up with pain and regret.