A guide to the new overtime rules.

THE NEW DEPARTMENT OF LABOR OVERTIME REGULATIONS, WHICH went into effect on August 23, 2004, updated regulations more than 50 years old. While there was much political wrangling and controversy over the new overtime rules, employers must comply with these changes now, if they haven't already done so.

Employers should use the new regulations as an opportunity to review their job classifications and functions to ensure that positions are properly classified as "exempt" or "non-exempt" for purposes of the overtime rules, based on the employee's actual duties and the new rules. Employers who fail to review their classifications under the new rules risk being out of compliance. For many employers, implementing the new regulations will result in their first comprehensive review of pay practices in years. If you have questions, consult with your attorney for specific guidance particular to your company, especially before changing a former "non-exempt" position to exempt status.

The Basics

The first step is to know what has changed and what has not. Before examining the new overtime rules, there are three important things that have not changed. First, approximately 18 states have separate overtime laws that trump federal law. The new federal overtime regulations will not affect employees in those states. Second, the new regulations do not change the common law test used to determine whether a worker is an employee or independent contractor. If a worker is an independent contractor, these rules are irrelevant, because such a worker is, by definition, not subject to the overtime rules. Third, the exemptions to overtime pay do not apply to manual laborers or other "blue-collar" workers who perform work involving repetitive operations with their hands, physical skill and energy. Non-management employees in production, maintenance, construction and similar occupations such as mechanics and laborers are entitled to overtime premium pay under the new regulations, no matter how highly paid they are.

The Fair Labor Standards Act ("FLSA") requires that most employees in the United States be paid overtime pay at time and one-half the regular rate of pay for all hours worked over 40 hours in a work-week. However, the FLSA provides an exemption from overtime pay for employees employed as "white-collar" workers--executive, administrative, professional, outside sales, and certain computer employees. To qualify for exemption, employees generally must meet certain tests regarding their job duties and be paid on a salary basis at not less than $455 per week. Job titles do not determine exempt status. In order for an exemption to apply, an employee's specific job duties and salary must meet all the requirements of the regulations.

Before examining the changes below, here is a summary of the most important rules that all employers should know:

1. Almost all employees who make less than $455 a week ($23,660/year) are eligible for overtime. This new rule applies whether the employee is blue-collar or white-collar, and whether they supervise employees or not. The exceptions to this rule are teachers, doctors and lawyers; they do not get overtime, no matter what they are paid.

2. Any white-collar employee who earns more than $100,000 a year is ineligible for overtime.

3. An employee who earns between $23,660 and $100,000 a year, and who meets the criteria for the executive, professional, administrative or computer category is not eligible for overtime. Salespeople are still eligible for overtime unless they regularly work outside of the employer's place of business.

4. Administrative employees who have decision-making power and run a business operation are not eligible for overtime.

5. Managers who oversee two or more people and have the authority to hire, fire or recommend that someone be hired or fired are not eligible for overtime.

Three Primary Tests

There are three primary tests for determining who is eligible ("non-exempt") and who is not ("exempt") from overtime pay. The first test is the salary test. To be exempt from overtime, employees must be paid a set salary, not an hourly rage. The new rules don't change this long-standing requirement. The new rules, however, permit for the first time, certain deductions from salary for infractions of workplace conduct rules (even ones not involving safety). The new rules also confirm several practices for salaried employees which had been viewed with some suspicion--deductions from accrued leave for partial day absences, requiring employees to track hours, and requiring employees to work a specific schedule.

The second criteria, the "salary-level" test, has been amended. Regarding office workers, the clearest change is that the minimum salary requirement under the overtime rules for any executive or administrative employee increases from $155 per week ($8,060 per year) to $455 per week ($23,660 per year). The minimum salary for professional employees (except lawyers and doctors), including those in computer-related occupations, increased from $170 per week ($8,840 per year) to $455 per week. If the employee is not paid at least as much as is required by this rule, then he or she is entitled to overtime, regardless of whether his or her duties satisfy the tests below. In rural areas, this change may result in some increase in the number of non-exempt employees. However, because the salary tests have not been updated since 1975, they are unlikely to have much effect in urban and suburban areas. White-collar employees who earn more than $100,000 a year are automatically exempt from overtime pay under the new rules.

The third test, the "duties" test, is the most controversial and the most complicated. This test tries to establish eligibility for overtime based on the type of work an employee performs every day. Under the rules, an employee whose job is deemed administrative, professional or executive in nature does not qualify for overtime. While these categories have not changed, the new rules clarify the type of work that qualifies as administrative, professional and executive. The "primary duty" prong of this test has also been made significantly more flexible for the executive, administrative and professional categories. While duties that involve more than half of an employee's time will still generally be considered "primary," the new regulations provide greater leeway for a finding of exempt status, even where less than 50% of the employee's time is taken up with exempt functions. Also, nonexempt tasks that are "directly and closely related" to an employee's exempt responsibilities may now be counted as exempt work in determining the employee's primary duties.

Executive Exemption

Under the old rule, an employee who was paid $250 per week, whose primary duty was managing the enterprise or a customarily recognized department or subdivision, and who regularly directed the work of two or more employees was exempt, without regard to his authority or influence in employment decisions. Under the new rule, the rate is increased to $455 per week and the standard for what constitutes "management" duties has been expanded. This may mean that some formerly "non-exempt" employees will now be "exempt." In addition, under the old rule, an employee did not quality for the executive exemption if he spent more than 20% of his time on activities not "directly and closely related to" his exempt management work (the "20% rule"). This 20% test has been eliminated, and the only test is the "primary duty" test. "Primary duty" means the principal, main, major or most important duty that the employee performs. This may mean that some formerly "non-exempt" employees are now "exempt."

Under a special rule for business owners, an employee who owns at least a bona fide 20% equity interest in the enterprise in which employed, regardless of the type of business organization (e.g., corporation, partnership, or other), and who is actively engaged in its management, is considered an exempt executive.

Administrative Exemption

This exemption is most often applied erroneously, and should be carefully considered when classifying employees as "exempt" or "non-exempt." Some employers have simply decided that any office employee is an "exempt" "administrative employee." Administrative employees must have as their primary duty 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 those primary duties must include the exercise of discretion and independent judgment with respect to matters of significance. Because of the "discretion and independent judgment" requirement, most administrative assistants do not fall under this exemption.

This test has changed little with respect to employees who, under the old rule, were paid at least $250 per week. Under the old rule, an employee who was paid at least $155 per week, but less than $250 per week, did not qualify for the administrative exemption if he failed to satisfy the "20% rule" (described above), or if he failed to "regularly and directly assist a proprietor or other exempt executive or administrative employee; perform specialized or technical work requiring specialized knowledge under only general supervision, or execute special assignments under only general supervision." Both of these tests have been eliminated, suggesting a broader application for this exemption, which is likely to increase the number of positions that meet the test. The discussion and examples in the new regulations also substantially streamline and clarify the discussion in the old regulations.

Professional Exemption

Professional employees must have as their primary duties work requiring knowledge of an advance type, work in a field of science or learning, or work customarily acquired by a prolonged course of specialized instruction.

The rules for "professionals" are not substantially changed. The fields in which "professionals" may work include, but are not limited to, law, medicine, nursing, accounting, actuarial computation, engineering, architecture, teaching (in educational institutions), various types of physical, chemical, and biological sciences, including pharmacy and registered or certified medical technology, etc. The regulations also expressly address the classification of holders of various specialized degrees and professional certifications, making clear that occupations whose educational prerequisites involve three years of nonspecialized college instruction and a fourth year in an accredited specialized program will generally be exempt. The new regulations also eliminate the "20% rule" that formerly applied to professionals.

Computer Employee Exemption

The new rules make clear that the computer employee exemption does not include employees engaged in the manufacture or repair of computer hardware and related equipment. Employees whose work is highly dependent upon, or facilitated by, the use of computers and 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 other similarly skilled computer-related occupations, are also not exempt under the computer employee exemption. Apart from the change in the salary test and the elimination of the 20% rule, the rules for computer employees are not substantially changed.

Conclusion

In light of the new regulations, each employer should review the classifications of all exempt and nonexempt employees. Employers should revise or adjust formal job descriptions if necessary. Employers may also need to adjust the compensation of lower paid employees to bring them within the scope of the new salary level. Finally, employers should review their state law to determine whether it provides greater protection than the revised federal rules. The new rules still contain traps for the unwary, so it is best to consult with your attorney should any questions arise.

Heidi K. Abegg, Webster, Chamberlain & Bean