Survival Guide to the New Overtime Regulations

At the most basic level, overtime is defined as the amount of time worked outside the scope of normal working hours that requires additional compensation pay based on employee eligibility.

Because “normal working hours” could be open to interpretation, the United States set the standard definition about eighty years ago with the Fair Labor Standards Act of 1938. The FLSA established that a regular workweek is 40 hours (or eight hours a day, depending upon the state) and mandated the payment of one and one-half times the worker’s normal rate of pay (known as overtime pay) for any hours worked above that standard amount.

However, in order to be eligible for overtime, employees must be classified as “non-exempt”; employees who are not eligible for overtime are considered “exempt.”

“A common misconception is that job title or salary level alone can determine status…”

A common misconception is that job title or salary-level alone can determine status, but in fact, three tests are applied to ascertain an employee’s standing. In order to be considered “exempt” and therefore not eligible for overtime pay, an employee must pass all three tests:

Managing overtime can be challenging for many organizations. Without the right structures in place to capture time and pay accurately (i.e. error-prone manual processes or older systems), as well as a clear understanding of how to apply the exemption status, employees may not be paid the correct amount for their hard work.

Even if tracking and payroll are done correctly, insights into the additional expense of overtime may not be exposed until it’s too late to manage the associated costs. The Bureau of Labor Statistics points to overtime accrual as one of the largest contributing factors to increased labor costs.

In fact, so many businesses struggle to handle payroll and time properly that the leading cause of labor litigations is overtime violations. These wage and hour violations accounted for approximately $3.6 billion in penalties from January 2007 through March 2015.

“The leading cause of labor litigations is overtime violations.”

While the original FLSA standards and tests worked well in 1938, times have changed while regulations have seen very few updates. A minimum salary threshold was added in 1975, but that salary number has only been updated once in the forty years since, and the 2004 increase did not account for the impact of inflation.

The result? Only 7% of full-time salaried workers are eligible for overtime pay today; that number was 62% when the threshold was introduced in 1975.

How times have changed, indeed

While the exemption was originally designed to limit overtime pay for highly paid workers with better benefits, the erosion in the salary threshold has curtailed overtime pay to those who deserve it. To illustrate, a worker earning less than the poverty line for a family of four may earn too much to qualify for overtime with the $455 per week threshold.

As a result of this mismatch between intention and reality—as well as the increase in litigation over the years related to exemption status abuse and misclassification—the Department of Labor passed the new overtime law on May 18, 2016.

Effective December 1, 2016, the Department of Labor’s Final Rule, updating overtime regulations, goes into effect and is expected to impact 4.2 million Americans within the first year of implementation. The purpose of the Final Rule is to protect and compensate large numbers of employees who deserve, but do not currently receive, overtime pay.

Every business will be impacted differently, depending on circumstances such as current employee exemption statuses, how many employees are now eligible for overtime payment under the updated rules, and where the business operates.

Financial Impact

The Department of Labor estimates the financial impact for employers will be $1.5 billion annually, with the lion’s share of that cost due to an increase in overtime pay to the tune of $1.2 billion. The remaining $300 million is attributed to the corresponding administrative costs.

Exemption Status

The change in employee exemption status is projected to impact 4.2 million workers directly. In addition, another 8.9 million will be indirectly affected with a reduction in the ambiguity of their status. The types of workers impacted include both salaried white collar workers (5.7 million) and salaried blue collar workers (3.2 million).

As explained by the Department of Labor, these workers are currently entitled to overtime but aren’t receiving it. The new rules help these workers “have their overtime protection strengthened because their status as overtime-eligible will be clear based on the salary test alone without the need to examine their duties.”

Location

The FLSA sets the minimum standards for all states. However, if your business is located in a state that has higher protective standards for employees than existed before (or after) the Final Rule, then the financial impact to your business may be lessened (although not necessarily the administrative headaches).

As an example, California employers will need to now keep track of federal and state thresholds because some provisions are stronger in each set of regulations. To elaborate, the Final Rule’s new salary threshold is higher than California’s threshold; however, the 51% duties test in California is stronger and more favorable to employees. As such, California employers are now beholden to both sets of standards.

As an employer, you have options for how to handle this update to the standard salary level. A logical first step is to arm yourself with knowledge about your workforce, including:

Of course, a combination of these approaches can be applied if you examine each affected employee (or employee type) and determine the best course of action by individual (or equivalent group).

For example, it may make sense to raise the salary of a worker who consistently puts in overtime so that this employee is above the threshold and exempt. Alternatively, for a nine-to-five employee who rarely puts in overtime, allowing that worker to be reclassified as non-exempt will have little impact on your financials since overtime will either never happen or cost less than raising his or her salary.

Of note, the Department of Labor points out: “Nothing in the rule requires employers to change employees’ pay to hourly from salaried, even if the employees’ classification changes from exempt to overtime eligible.”

Scenarios, Impacts, and Suggested Actions

Every employee situation is unique, but the following scenarios provide some common challenges and suggested actions to minimize the impact on your business while satisfying the new regulations.

The end result of the Final Rule is that middle class workers will be compensated for their time—either financially through overtime pay or by having more free time for their personal lives. While these updates to overtime may feel painful for some businesses, the new regulations are long overdue, and the end result will be a healthier and happier workforce.