In May 2016, the U.S. Department of Labor (DOL) finalized its controversial “overtime rule,” which doubles the minimum salary an employee must receive in order to qualify for the “white collar” exemption from overtime pay. Many construction companies employ relatively low-paid managers who will lose their exempt status under the rule, currently scheduled to take effect December 1, 2016. According to the National Association of Home Builders, approximately 100,000 construction supervisors will be eligible for overtime under the new rule.
The final rule increases the salary threshold for exempt executive, administrative and professional (EAP) employees from $455 per week ($23,660 per year) to $913 per week ($47,476 per year). It also increases the salary threshold for highly compensated employees (HCEs) from $100,000 per year to $134,004 per year.
In determining whether an employee is exempt, up to 10% of the salary threshold may be satisfied by nondiscretionary bonuses, incentive payments or commissions, provided they’re paid at least quarterly. Both salary thresholds will be adjusted automatically every three years, beginning on January 1, 2020.
What hasn’t changed?
The new rule doesn’t change the methods of calculating overtime or (apart from the increased salary threshold) determining whether an employee is exempt from the overtime rules. Under the federal Fair Labor Standards Act (FLSA), employees generally are entitled to time-and-a-half for each hour they work in excess of 40 hours per week.
An employee qualifies for the EAP exemption if three tests are met:
- Salary basis test. The employee receives a predetermined, fixed salary that’s not subject to reduction based on variations in the quality or quantity of work.
- Salary threshold test. The employee’s salary meets or exceeds a specified amount ($913 per week as of the currently scheduled effective date of December 1, 2016).
- Duties test. The employee’s primary job duties involve the type of work associated with exempt executive, administrative or professional employees. HCEs are subject to a less stringent duties test than other workers, which makes it easier for them to qualify as EAPs.
In the construction industry, the EAP exemption generally doesn’t apply to nonmanagement employees who spend a significant portion of their time performing manual labor rather than supervising other workers, regardless of salary level.
How will it affect contractors?
Under the new rule, businesses with previously exempt employees who earn $455 or more per week but less than $913 per week will have to pay those employees time-and-a-half for overtime. If those employees regularly work more than 40 hours per week, the additional expense can be significant. There are several options for easing the burden of these new overtime obligations:
Switch previously exempt employees from salaried to hourly status. Set their hourly rates so that their overall pay, taking into account estimated overtime, is comparable to what they were earning before.
Project your compensation expense under the new rule. For employees expected to receive less than $913 per week, including overtime, consider raising their salaries to the new threshold.
Eliminate overtime. You can do this by hiring additional workers or redistributing work among existing workers.
Use independent contractors. These workers aren’t subject to overtime requirements. But keep in mind that both the DOL and the IRS have been cracking down on companies that misclassify employees as independent contractors. (See “Watch out for worker misclassification.”)
When taking steps to mitigate the impact of the new overtime rule, don’t forget to consider employee morale. For example, formerly exempt employees switched from salaried to hourly pay may view the change as a demotion or loss of status — even if their take-home pay is the same as or higher than before.
Even if you continue to pay salaries, the loss of exempt status may not sit well with some staff members. Also, employees will have to track all of their hours to be sure they’re compensated for overtime and may lose some of the flexibility associated with exempt status.
Where to begin?
Start analyzing your compensation program and evaluating the potential financial impact of the overtime rule now. Whichever strategy you choose to deal with it, develop a communications strategy to inform employees of your decisions and address employee morale issues.
Watch out for worker misclassification
In recent years, the Department of Labor (DOL) and IRS have been scrutinizing the use of independent contractors by construction companies. The two agencies are concerned about businesses that misclassify employees as independent contractors — whether intentionally or inadvertently — thereby avoiding overtime, unemployment compensation, benefit and payroll tax obligations.
Worker misclassification can have serious consequences, including liability for back wages, back taxes, unpaid employee benefits, and penalties and interest. In one recent case, the DOL ordered a homebuilder to pay $48,000 in back wages and penalties for misclassifying employees as independent contractors and failing to pay required overtime.
The new overtime rule increases the advantages of using independent contractors, so it’s likely that the government will become even more vigilant in the future. That doesn’t mean you should avoid using independent contractors but, when you do, be sure you classify them properly.