Inova Payroll Blog

Classifying Exempt Employees

Posted by Corie Stark on Feb 11, 2021

When it comes to classifying employees, there are two basic types that workers fall under: exempt or nonexempt. One of the most significant differences between the two categories is eligibility for overtime pay. Employers are required to pay nonexempt workers at least one and a half times the regular rate of pay for work performed over 40 hours in a workweek. Exempt employees are not required to be paid overtime, though certain salary and job duties criteria must be met.

It is crucial to follow the Fair Labor Standards Act (FLSA) and U.S. Department of Labor (DOL) regulations governing whether an employee is exempt from overtime because misclassifying a worker has serious repercussions for employers. As with most laws affecting the employer-employee relationship, the FLSA and its classification rules are complex, and the official guidance changes over time.

Are you classifying exempt employees correctly?

The Fair Labor Standards Act

Signed into law in 1938 by President Franklin D. Roosevelt, the Fair Labor Standards Act established national rules for work hours and wages, regulating minimum wage, overtime pay, recordkeeping, and child labor. Most employers, whether private or public, are covered by the FLSA. According to the DOL, there are 135 million workers in the country who benefit from coverage under the law. 

Since the passing of the FLSA, the DOL has provided additional guidance to employers, including a string of final rules over the past two years that sought to clarify and update the overtime portion of the law. The guidance adds another layer of complexity as well as urgency for employers seeking to properly classify their employees.

Exempt Employees

From a bird’s-eye view, exempt employees:

  • Are considered white-collar workers who generally do not perform repetitive manual or physical work.
  • Are hired to perform specific tasks while benefiting the business as a whole with more significant projects or operations. 
  • Are salaried and expected to work 40 hours per week but can work as long as needed to perform their job.
  • Are paid at least $684 per week and are not subject to the overtime regulations of the FLSA, meaning employers are freed from the obligation to pay it.

The law provides three tests that must be satisfied to accurately classify exempt employees: primary job duties, salary level, and salary basis. 

The Job Duties Test for Exemption

The most common primary duties for exemptions include executive, administrative, professional, computer, highly-compensated, or outside sales employees.

Executive

  1. Primary duty is to manage an enterprise or customarily recognized subdivision. 
  2. Has authority to hire, fire, or promote other employees or effectively direct similar actions.
  3. Customarily and regularly directs the work of two or more full-time employees or equivalent personnel.
  4. Or is a business owner with at least 20% equity interest and actively engaged in company management. 

Administrative

  1. Primary duty is office or non-manual work directly related to the implementation of management policies or general business operations.
  2. Primary duty includes the exercise of discretion and judgment concerning significant matters.  

Professional—Learned

  1. Primary duty is work requiring advanced knowledge and includes the exercise of discretion and judgment.
  2. The advanced knowledge must be in a field of science or learning that is acquired by a prolonged course of specialized studies. 

Professional—Creative 

  1. Primary duty is work requiring invention, imagination, originality, or talent in a recognized artistic or creative field. 

Computer Employees 

  1. Primary duty involves applying systems analysis techniques to determine hardware, software, or system specifications.
  2. The design, development, analysis, testing, or modification of computer systems or programs, based on and related to user or system design specifications.
  3. The design, testing, creation, or modification of computer programs, but not for employees who build or repair computers. 

Highly Compensated 

  1. Primary duty is office or non-manual work.
  2. Customarily and regularly performs at least one duty of an exempt executive, administrative, or professional employee.
  3. Receives total compensation of at least $107,432 annually; at least $684 per week must be paid on a salary basis. 

Outside Sales 

  1. Primary duty is making sales or obtaining orders or contracts for service or the use of facilities for which a consideration will be paid by the client or customers
  2. The employee is regularly engaged away from the employer’s places of business 

Executive, administrative, professional, computer, outside sales, and highly-compensated duties exemptions to overtime rules do not apply to blue-collar workers performing manual and physical work or to police, firefighters, paramedics, and other first responders. Reference the U.S. Department of Labor’s Fact Sheet #17A for additional occupations that do not meet the duties test for exemption.

The Salary Level and Basis Tests for Exemption

Employers must also determine exempt status using the salary level and basis tests.

  1. Executive, administrative, professional, and salaried computer employees must meet a salary threshold – the minimum salary to be exempt from overtime wages – of $35,568 or $684 per week as of Jan. 1, 2020
  2. Hourly computer employees must make at least $27.63 per hour.
  3. Highly compensated employees must make at least $107,432 annually.
  4. These employees must be paid a predetermined amount on a weekly or less frequent basis, and the amount must not be subject to reduction because of variations in the work performed. 

Outside sales employees have no salary level or basis minimum, so you must refer to the primary duties test. Similarly, under the FLSA, teachers, doctors, and lawyers are exempt from salary tests, thus confirming their exempt status falls on the duties test.

Nonexempt employees can be salaried like their exempt counterparts; however, unlike exempt employees, they must be paid at least federal minimum wage for all hours worked and overtime past 40 hours a week during a workweek. 

Paying Exempt Employees: Permissible Deductions

As a general rule, exempt employees must be paid for any work during the workweek in the full salary amount. Employers cannot take a deduction for an absence caused by the employer or business but can make deductions for:

  • Offsetting amounts paid for serving as a witness, jury, or military pay (note: jury duty or temp military leave, on the other hand, are not permissible).
  • Unpaid FMLA or medical leaves.
  • Disciplinary suspensions following company policy or safety infractions.
  • Partial weeks in the first or last weeks of employment.
  • Full-day absences for personal reasons or full-day absences for sickness/disability if the employer offers a paid leave plan.

The Consequences of Misclassification

In most situations, misclassifying an employee as exempt is purely accidental. Regardless, those classification mistakes can result in mandated payments, including liquidated damages, back pay, interest, state damages, and more. All of this can quickly add up, leaving employers with thousands of dollars owed to employees, former employees, and state and federal governments.

Employers already have a lot on their plates—worrying about the Department of Labor knocking on their door doesn’t have to be one of them. Take the time to understand the job duties and salary tests, and if you have questions, work with your labor attorney to ensure compliance with the FLSA.

Topics: Payroll Mistakes, Payroll, Payroll Basics

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