FLSA Overtime Exemptions: Are Your Employees Properly Classified?

Most employers are subject to the Fair Labor Standards Act (“FLSA” or “Act”) as covered enterprises.  As of January 1, 2020, the Department of Labor revised its regulations located at 29 C.F.R. Part 541 to raise the salary required for an employee to qualify for the most common exemptions from the Act’s overtime requirements to $684 per week, instead of $455 per week required previously.  Although the FLSA is enforced by the Department of Labor (“DOL”), an employee can choose between submitting a complaint with the DOL for investigation or filing a claim in a court of law.  Because the risks of incorrectly applying an overtime exemption can be costly, it is important to understand the more common overtime exemptions, and to recognize some common problems that employers face when attempting to determine who is exempt and how to handle exempt employees.   

General Regulations as of January 1, 2020

Employers subject to the FLSA must comply with minimum wage and overtime regulations governed by that Act.  Almost all employees must be paid at least the federal minimum wage rate of $7.25 per hour.  Some states like California have additional minimum wage laws that require payment of more than $7.25 per hour.  In states like Texas that has no state minimum wage law, the federal minimum wage of $7.25 applies   Most employees are also entitled to overtime pay at the rate of 1 ½ times their regular rate for all hours actually worked in excess of 40 in any given workweek.  Unless an employee is exempt from overtime, the FLSA requires that employers track all hours worked per week.

Most Common Overtime Exemptions

Some employees are exempt from overtime pay when they meet certain requirements for specific overtime exemptions recognized under the Act.  The most common exemptions provide that the employee satisfy a two-part test, known as the “salary basis” and “duties” tests.  Effective January 1, 2020, the minimum salary threshold to qualify for these common exemptions: executive, administrative and professional (also known as “white collar exemptions”) was raised to $35,568 per year ($684 per week).  Prior to January 1, 2020, the minimum salary was $23,660 per year ($455 per week). 

Salary Basis Test

The “salary basis” test means an employee regularly receives a set amount of money per pay period.  The predetermined amount of money cannot be reduced due to a reduction in quality or quantity of work, or an exemption that is appropriate can be forfeited by the employer.  Moreover, an exempt employee must receive his or her full salary in any week in which he or she performs work, even if it is less than a fulltime schedule or again, the exemption may be forfeited.  The theory is that an exempt employee may work less than or in excess of 40 hours in a given workweek for the same set salary because of the high degree of skill, judgment and knowledge the position requires.  Reducing an exempt employee’s salary because he or she works less than a full schedule in a given workweek may destroy the exemption so that the employee is converted to non-exempt status, and entitled to overtime pay.

Practice Tip – In the event that an exempt employee is underperforming in the number of work hours or the quality of his or her work product, it should be handled as a performance issue.  Certainly, discretionary bonuses can be reduced and the employee can be placed on a performance improvement plan.  If performance issues persist, the employee can be demoted or terminated.

Effect of Improper Deductions from Salary

As stated above, ordinarily, an employer cannot make deductions from the salary of a non-exempt employee without destroying exempt status.  In fact, an employer risks losing an exemption if it has an “actual practice” of making improper deductions from salary.  The consequences of improper deductions is unforgiving.  If an “actual practice” of making improper deductions is found to exist, all employees in the same job category may be converted to non-exempt status.  In that case, the employer is obligated to pay any overtime pay due for all such employees over the preceding two-year period (and possibly the preceding three-year period if a pattern and practice is found to be willful.  Willful generally means that the employer has had repeated FLSA violations, or evidence shows a disregard of known regulations.  

• Safe Harbor – If an employer: (1) has a clearly communicated policy that prohibits improper deductions and includes a complaint procedure; (2) reimburses employees for any improper deductions, and (3) makes a good faith commitment to comply in the future, the employer will not lose the exemption unless the employer willfully violates its policy by continuing to make improper deductions after receiving employee complaints.

Practice Tip – A policy against improper deductions is usually contained in an Employee Handbook, which spells out the complaint procedure and the employer’s commitment to correct any errors.  As long as the employer investigates and fairly evaluates the merits of the complaints, the employer will not lose the exemption at issue. 

Primary Duties Test

The term “primary duty” means the principal, main, major or most important duty that the employee performs.  Determination of an employee’s primary duty must be based on all factors, with the major emphasis on the character of the employee’s job as a whole. 

• It is important to note that the job title is not determinative of whether an exemption applies.  A job description may support the existence of an exemption only if it accurately reflects the day-to-day activities of the employee. 

Administrative Exemption

All of the following must be present:

• The employee must be compensated on a salary basis of not less than $684 per week.
• The employee’s primary duty must be the performance of office or non-manual work directly related to the management or general business operations of the employer or the employer’s customers; and
• The primary duty includes the exercise of discretion and independent judgement with respect to matters of significance.

Practice Tip – If the employee must obtain approval for decisions or before implementing ideas, there is probably no “independent judgement with respect to matters of significance.”

Executive Exemption

 All of the following must be present:

• The employee must be compensated on a salary basis of not less than $684 per week.
• The employee’s primary duty must be managing the enterprise, or managing a customarily recognized department or subdivision of the enterprise.
• The employee must customarily and regularly direct the work of at least 2 or more other full-time employees or their equivalent (e.g., 4 part time individuals).
• The employee must have the authority to hire or fire other employees, or the employee’s suggestions and recommendations as to the hiring, firing, advancement, promotion or any other change of status of other employees must be given particular weight.

Professional Exemption

There are two types of professional employees: learned professionals and creative professionals, both of which require that the employee be compensated at the minimum rate of $684.00 per week.

1. Learned Professional Exemption – All of the following tests must be met:
2. The employee’s primary duty must be the performance of work requiring advanced knowledge, defined as work which is predominantly intellectual in character and which includes work requiring the consistent exercise of discretion and judgment; 
3. The advanced knowledge must be in a field of science or learning; and
4. The advanced knowledge must be customarily acquired by a prolonged course of specialized intellectual instruction (e.g., science, medicine, law, accounting engineering, teaching, architecture or similarly recognized professional field).

• Creative Professional Exemption – All of the following must be met:
• The employee’s primary duty must be the performance of work requiring invention, imagination, originality or talent in a recognized field of artistic or creative endeavor (e.g. graphic artists, journalists who write based on their own talent and imagination).

Outside Sales Exemption

To qualify for the Outside Sales Exemption, all of the following must be met:

• The employee’s primary duty must be making sales (as defined by the FLSA) or obtaining orders or contracts for services, or for the use of facilities for which consideration will be paid by the client or customer; and
• The employee must be “customarily and regularly” engaged away from the employer’s place or places of business.

Note – “making sales” is defined as “any sale, exchange, contract to sell, consignment for sales, shipment for sale, or other disposition” and includes the transfer of title to tangible property, and in certain cases, of tangible and valuable evidence of intangible property. 

Note – “customarily and regularly” means greater than occasional but less than constant; it includes work normally done every workweek, but does not include occasional or one-time tasks.

Practice Tip – The exemption is not available to employees who make inside sales calls, or to those employees who merely write up orders or do paperwork after the salesperson has made the sale.  The exemption does not apply to employees who are hired to perform “promotion work” incidental to the sales made, but who do not sell any products themselves.

Computer Employee Exemption

Computer systems analysts, computer programmers, software engineers or similarly situated workers in the computer field may be exempt from overtime requirements if they are paid a minimum of $684 per week, or if paid on an hourly basis, $27.63 per hour.  The employee’s primary duty must be:

1. The application of systems analysis techniques and procedures, including consulting with users, to determine hardware, software or system functional specifications;
2. The design, development, documentation, analysis, creation, testing or modification of computer systems or programs, including prototypes, based on and related to user or system design specifications;
3. The design, documentation, testing, creation or modification of computer programs related to machine operating systems; or
4. A combination of the aforementioned duties, the performance of which requires the same level of skills.

Note – The exemption does not include employees involved in the manufacture or repair of hardware equipment.  It also does not apply to employees whose work is highly dependent upon, or facilitated by, the use of computers or computer software programs (e.g., engineers, drafters, and others skilled in computer-aided design software), but who are not primarily engaged in computer systems analysis and programming or similarly skilled computer-related occupations.

Highly Compensated Employees

Highly compensated employees performing office or non-manual work and paid not less than $107,432 per year (which includes at least $684 per week on a salary or fee basis) are exempt if they customarily and regularly perform at least one of the duties of an executive, administrative or professional employee identified in the white-collar exemptions above.

Record Keeping Requirements

Every employer who falls within the scope of the Act must retain records for all non-exempt employees, which includes the name, address and social security number, hours worked each day and for each workweek, the regular hourly pay rate, straight time and overtime earned each workweek, any deductions from pay, the total wages earned for each workweek and the dates of payment.  Retention of such records is required for a period of three (3) years because an employee or the Department of Labor (“DOL”) may go back as far as three years when seeking unpaid wages.  Although there is no private right of action for an employee to enforce FLSA’s recordkeeping requirement, the DOL has the right to enforce this obligation.  The failure to keep accurate records is itself a violation of the FLSA.  Moreover, when an employee brings a claim for overtime or another violation of FLSA, it is the employer’s burden to come forward with evidence to challenge the employee’s claim. 

When an employer does not retain records of hours worked, an employee’s calendar, diary, or testimony may be sufficient evidence of hours worked.  For example, an employee could claim that he or she worked through the lunch hour consistently 3 times per week for 3 years.  If an employer who wishes to challenge the assertion does not have time sheets reflecting hours worked, the employer will have a difficult time meeting this burden. 

Damages for Non-compliance

Unless the employer can prove that it acted in “good faith” in its attempts to comply with the FLSA, it will pay liquidated damages (2x the wages owed) for all overtime pay owed, plus attorney’s fees incurred by the claimant.  A finding of “good faith” requires that the employer show the company had a good faith belief that it was following the law.  If the employer is able to establish a “good faith” defense, the court has the authority to reduce the double damages award to lessen the harshness of the penalty.  Therefore, it is worth performing an analysis of the company’s procedures for evaluating who is exempt from overtime, as well as whether proper procedures are followed to retain those exemptions.  

The information contained in this article is not designed to address specific situations.  If you have questions concerning this topic, you should consult with legal counsel for advice on fact specific matters.

Robin Foret is Board Certified in Labor & Employment Law by the Texas Board of Legal Specialization. She is a frequent speaker and writer on employment law compliance topics.  She also provides training for companies to assist them comply with federal and state employment laws.  She can be reached at rforet@realclearcounsel.com or by telephone at (469) 626-5358.