In the fall of 2016, before the Obama administration increases to the minimum salary were set to go into effect (spoiler alert – they didn’t!), we wrote in this space about the challenges facing employers in addressing those expected changes: “Compliance with the New DOL Overtime Exemption Rule May Create Unexpected Challenges for Employers.

As we wrote earlier this week, the current administration’s changes are set to go into effect on January 1, 2020: “U.S. Department of Labor Issues Long-Awaited Final Rule Updating the Compensation Requirements for the FLSA’s Executive, Administrative, and Professional Exemptions.”

While the amounts of the new thresholds may be different than those expected to go into effect three years ago, the challenges are the same.  They are worth considering again – and soon.  January 1, 2020 will be here very, very soon.

The New Salary Thresholds

Effective January 1, 2020 the salary threshold for the executive, administrative, and professional exemptions under the federal Fair Labor Standards Act (“FLSA”) will increase from $23,660 ($455 per week) to $35,568 ($684 per week). This increase is but one of the changes that goes into effect on January 1.

The total annual compensation requirement for “highly compensated employees” subject to a minimal duties test will also increase from $100,000 to $107,432.

And employers may use commissions, nondiscretionary bonuses, and other incentive compensation to satisfy up to 10% of the salary requirement, provided that these payments occur no less frequently than annually, and subject to a single “catch-up” payment within one pay period of the close of the year.

On first glance, dealing with the increase in the minimum salaries for white-collar exemptions would not appear to create much of a challenge for employers—they must decide whether to increase employees’ salaries or convert them to non-exempt status. Many employers that have already reviewed the issue and its repercussions would likely disagree with the assessment that this is a simple task. The decisions not only impact the affected employees but also affect the employers’ budgets and compensation structures, potentially creating unwanted salary compressions or forcing employers to adjust the salaries of other employees.

In addition, converting employees to non-exempt status requires an employer to set new hourly rates for the employees. If that is not done carefully, it could result in the employee receiving an unanticipated increase in compensation—perhaps a huge one— or an unexpected decrease in annual compensation.

The Impact on Compensation Structures

For otherwise exempt employees whose compensation already satisfies the new minimum salaries, nothing need be done to comply with the new DOL rule. But that does not mean that those employees will not be affected by the new rule. Employers that raise the salaries of other employees to comply with the new thresholds could create operational or morale issues for those whose salaries are not being adjusted. It is not difficult to conceive of situations where complying with the rule by only addressing the compensation of those who fall below the threshold would result in a lower-level employee leapfrogging over a higher-level employee in terms of compensation, or where it results in unwanted salary compression. Salary shifts could also affect any analysis of whether the new compensation structure adversely affects individuals in protected categories. A female senior manager who is now being paid only several hundred dollars per year more than the lower-level male manager might well raise a concern about gender discrimination if her salary is not also adjusted.

The Impact of Increasing Salaries

For otherwise exempt employees who currently do not earn enough to satisfy the new minimum salary thresholds, employers have two choices: increase the salary to satisfy the new threshold or convert the employee to non-exempt status. Converting employees to non-exempt status can create challenges in attempting to set their hourly rates (addressed separately below).

If, for example, an otherwise exempt employee currently earns a salary of $35,000 per year, the employer may have an easy decision to give the employee a raise of at least $568 to satisfy the new threshold. But many decisions would not be so simple, particularly once they are viewed outside of a vacuum. What about the employee earning $30,000? Should that employee be given a raise of more than $5,000 or should she be converted to non-exempt status? It is not difficult to see how one employer would choose to give an employee a $5,000 raise while another would choose to convert that employee to non-exempt status.

What if the amount of an increase seems small, but it would have a large impact because of the number of employees affected? A salary increase of $5,000 for a single employee to meet the new salary threshold may not have a substantial impact upon many employers. But what if the employer would need to give that $5,000 increase to 500 employees across the country to maintain their exempt status? Suddenly, maintaining the exemption would carry a $2,500,000 price tag. And that is not a one-time cost; it is an annual one that would likely increase as the salary threshold is updated.

The Impact of Reclassifying an Employee as Non-Exempt

If an employer decides to convert an employee to non-exempt status, it faces a new challenge—setting the employee’s hourly rate. Doing that requires much more thought than punching numbers into a calculator.

If the employer “reverse engineers” an hourly rate by just taking the employee’s salary and assuming the employee works 52 weeks a year and 40 hours each week, it will result in the employee earning the same amount as before so long as she does not work any overtime. The employee will earn more than she did before if she works any overtime at all. And if she works a significant amount of overtime, the reclassification to non-exempt status could result in the employee earning significantly more than she earned before as an exempt employee. If she worked 10 hours of overtime a week, she would effectively receive a 37 percent increase in compensation.

But calculating the employee’s new hourly rate based on an expectation that she will work more overtime than is realistic would result in the employee earning less than she did before. If, for instance, the employer calculated an hourly rate by assuming that the employee would work 10 hours of overtime each week, and if she worked less than that, she would earn less than she did before—perhaps significantly less. That, of course, could lead to a severe morale issue—or to the unwanted departure of a valued employee.

What About State Laws?

The new salary thresholds apply to federal law.  Many states still have higher thresholds for exempt status – and different criteria – than federal law.  Employers must be mindful of more onerous state and local wage-hour laws in making any decisions pertaining to employee compensation.

EBG’s free wage hour app provides summaries of those federal, state and local laws.  (It will be updated shortly to address the new federal thresholds.) You can download the free app here.