Final Rules Regarding Overtime Pay Under the Fair Labor Standards Act (FLSA)
On May 18, 2020, and again on May 20, the Department of Labor’s (DOL) Wage and Hour Division issued final rules regarding overtime pay under the Fair Labor Standards Act (FLSA). The May 20 final rule allows for employers to provide bonuses, compensation, and hazard pay to certain employees, while simultaneously being able to calculate overtime under the fluctuating workweek basis. The May 18 final rule clarifies the standard in which an employer may classify an employee as exempt under the FLSA’s “retail and services” exemption.
Together, these final rules provide employers with some flexibility regarding payroll for certain employees. This flexibility is especially important for employers as they navigate the COVID-19 pandemic.
The Fluctuating Workweek Method of Computing Overtime
The FLSA requires that employers pay non-exempt employees compensation in the form of one and one-half times their regular rate of employment for all hours worked in excess of 40 in a given workweek. However, where an employee receives a fixed salary for fluctuating hours, the employer is allowed to use the fluctuating workweek method to compute overtime compensation, provided certain conditions are satisfied. Instead of the normal method of providing 1.5 times the rate of pay for each overtime hour worked, the fluctuating workweek method allows an employer to provide only 0.5 times the regular rate of pay.
In order to use the fluctuating workweek method, two conditions must be met: First, there must be a clear mutual understanding between the employer and employee that the employee’s fixed salary is compensation — apart from overtime premiums — for all of the fluctuating hours worked each workweek, regardless of number, rather than for some fixed and expected work period. Second, the salary provided to the employee must provide compensation at a rate of not less than the minimum wage rate for every hour worked in a workweek.
Where these criteria are met, the employer is allowed to use the fluctuating workweek method of calculating overtime — 0.5 times the regular rate for each overtime hour — and the regular rate is calculated by dividing the number of hours worked in the workweek by the amount of salary. Using this method, an employee’s regular rate will “fluctuate” each week, and this in turn will change the amount of overtime pay that is required.
The DOL’s Final Rule on the Fluctuating Workweek
The DOL’s final rule centers around the issue of whether an employer could use the fluctuating workweek method of calculating overtime where the employer provides bonuses or premium payments to the employee. Prior to 2011, the DOL had never forbidden such bonuses or premiums where the employee was compensated under the fluctuating workweek method. However, in a preamble to a 2011 final rule, the DOL took a different position and stated that such bonuses were “incompatible” with the fluctuating workweek calculation. This led to courts interpreting the DOL’s guidance in different ways, based upon judicially crafted distinctions as to certain types of bonuses.
In the 2020 final rule, the DOL has moved away from its earlier stance, and now clarifies that “bonuses, premium payments, and other additional pay of any kind are compatible with the use of the fluctuating workweek method of compensation.” The DOL justifies this final rule as one that will allow employers and employees to “better utilize flexible work schedules,” something that the DOL finds especially important during the COVID-19 pandemic. Due to COVID-19, employers are likely to promote social distancing through the use of flexible schedules and staggered times. The final rule, according to the DOL, will make it easier for employers and employees to “agree to unique scheduling arrangements while allowing employees to retain access to the bonuses and premiums they would otherwise earn.”
Importantly, under the new standard, any bonuses or premium payments paid to the employee must still be factored into the regular rate of pay when calculating overtime. In other words, such bonuses will increase an employee’s regular rate, which will result in increased overtime pay. In practice, using the fluctuating workweek method of compensation can be complex, as calculations of required overtime pay rates will change from week to week. Using this method requires that employees record hours properly, and human resource departments effectively track all premium and bonus pay. When properly implemented, however, the fluctuating workweek method can reduce overtime expenses in some circumstances.
The "Retail or Services" Exemption
The DOL’s other new final rule addresses the longstanding statutory exemption for retail or service employees who are paid primarily on the basis of commissions. For an employee to be eligible for this exemption, an employee must receive a regular rate of pay in excess of 1.5 times the applicable minimum wage, and more than half of the employee’s compensation for a representative period — not less than a month — must represent commissions on goods or services. Additionally, the employee must be employed in a retail or service establishment. This last element of the “retail or services” exemption is the focus of the DOL’s final rule.
Although the FLSA does not define “retail or service establishment,” the DOL has enacted several provisions that shed light on this term. According to the DOL, the typical characteristics of such an establishment are: (1) it sells goods or services to the general public; (2) it serves the everyday needs of the community in which it is located; (3) it sits at the very end of the stream of distribution; (4) it disposes products in “small quantities”; and (5) it does not take part in the “manufacturing process.”
Since 1961, the DOL also included in its regulations a list of hundreds of types of businesses and industries that “do not qualify” as retail or service businesses and thus cannot utilize this exemption. This list was expansive, and included, to name a few, banks, broadcasting companies, doctors and dentists, engineering firms, landscaping contractors, credit and loan companies, machinery services, painting contractors, roofing and plumbing contractors, real estate companies, tax services, telephone companies, transportation businesses, and travel agencies. The DOL also included a “may qualify” list of businesses in its regulations.
The DOL’s Final Rule on the "Retail or Services" Exemption
In its final rule, the DOL has rescinded its previous “do not qualify” and “may qualify” lists. In doing so, it has telegraphed to employers that previous businesses on the “do not quality” list may now invoke the “retail or services” exemption if they meet the standard characteristics of the exemption, i.e., they sell goods or services to the general public. According to the DOL, a “static list of establishments that absolutely lack a retail concept cannot account for such developments or modernization,” as an “industry may gain or lose retail characteristics over time as the economy develops or modernizes.”
There is still a catch: other DOL regulations — which have not been withdrawn — make clear that the exemption only applies to retail or service establishments where 75% of the annual dollar volume of sales of goods and/or services “is not for resale and is recognized as sales or services in the particular industry.”
The practical effect of the final rule is that there are no more “presumptions” from the DOL that certain businesses do not qualify for the “retail or services” exemption. If a business can (1) show its retail or service characteristics; (2) meet the 75% sale threshold; (3) show that an employee was paid 1.5 times the minimum wage; and (4) show that over 50% of the employee’s pay was in the form of commissions, the employee can be characterized as exempt from overtime pay. In practice, this analysis is very fact specific and will differ from business to business. Employers should navigate this FLSA exemption carefully with an attorney.
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