The 99.5 Percent Act has been proposed in the Senate, which could result in the most extensive changes to the federal estate and gift tax in decades.
Employers are hungry for skilled workers they can promote to positions of responsibility. When they do, the promoted employee’s compensation is often switched from an hourly wage to a salary. This change benefits the worker, who enjoys a more reliable paycheck, and the employer, who can count on an employee to work the longer hours that come with promotion without incurring the overtime costs that hourly employees can incur. Unfortunately, many employers wrongly assume that salarying an employee will, without more, exempt that employee from the overtime requirements of state and federal law; this is not the case and, when salaried employees are entitled to overtime, its calculation becomes a lawsuit trap.
State vs. Federal Law for Overtime Pay
This issue is especially unsettled in Pennsylvania right now, where the state has enacted its first update to overtime regulations in more than 40 years.
By way of background: all employees are presumptively entitled to overtime pay when they work more than forty hours per week under the federal Fair Labor Standards Act, (“FLSA”) 29 U.S.C. § 201, et seq. and the Pennsylvania Minimum Wage Act (“PaMWA”), 43 P.S. § 333.101, et seq. The exemptions under the state and federal laws overlap in most respects, but are not identical. See, e.g., Bayada Nurses, Inc. v. Com., Dep’t of Labor & Indus., 8 A.3d 866, 883 (Pa. 2010) (“The FLSA does not supersede state law; Pennsylvania may enact and impose more generous overtime provisions than those contained under the FLSA which are more beneficial to employees; and it is not mandated that state regulation be read identically to, or in pari materia with, the federal regulatory scheme.”) As a result, when an employer in Pennsylvania concludes that an employee is no longer entitled to overtime, it must consult both state and federal law.
Both Pennsylvania state and federal law include an overtime exemption for managerial employees. See, 43 P.S. § 333.105, 29 U.S.C. § 213. Because it is one of the few exemptions that an employee could be promoted into within the same company, this exemption is perhaps the most common trap for employers. This is so because the regulations interpreting FLSA provide that a “job title alone is insufficient to establish the exempt status of an employee. The exempt or nonexempt status of any particular employee must be determined on the basis of whether the employee’s salary and duties meet the requirements of the regulations in this part.” 29 C.F.R. § 541.2; see, also, Smith v. Johnson & Johnson, 593 F.3d 280, 285 (3d Cir. 2010). To that end, an employee who primarily performs manual work without the exercise of discretion will likely be non-exempt, even if she is paid a salary and has a nominally managerial title. 29 C.F.R. § 541.200; see also, Smith, supra at 280. Even where an employee primarily performs managerial work, she will still be entitled to overtime pay if her regular pay falls below $684 per week, or $35,568 annually.
Simply put: employees are exempt from overtime requirements where they meet the exemption requirements of Pennsylvania state and federal law. Whether an employee is entitled to overtime pay has little to do with whether she receives a salary or is paid by the hour.
The Complexity of Overtime Calculations
When an employer does choose to pay a salary to a non-exempt employee, her overtime calculation becomes both complex and a matter of some guesswork.
In Chevalier v. Gen. Nutrition Centers, Inc., the Pennsylvania Supreme Court permitted an employer to calculate a salaried employee’s hourly pay based on the actual hours worked by that employee under the PaMWA. 220 A.3d 1038, 1052 (Pa. 2019) (“the regular rate should be calculated by using the actual hours worked.”) Because a salaried employee’s hours are often subject to fluctuation, this is generally called the ‘Fluctuating Work Week’ or ‘FWW’ method of calculating base pay. The Supreme Court of Pennsylvania concluded that overtime pay under the Fluctuating Work Week calculation was still subject to a multiplier of 1.5 to calculate time-and-a-half pay.
By way of example, consider a non-exempt employee paid $52,000 annually, or $1,000 per week. In her first week on the job she works 40 hours, in her second 50 hours, her third 60, and her fourth 70. Under the PaMWA, her pay at the end of a four-week pay period would be $4,480.95, and would be calculated as follows:
Two facts are apparent based on this calculation. First and from the perspective of the employer, this calculation is more complex than it would be for an hourly employee, since it requires the employer to calculate an hourly wage. Second, it creates diminishing returns for overtime work: although the employee works nearly twice as many hours in week four than in week one, she receives less than 25% more than if she had worked a forty-hour week.
The Department of Labor’s regulations governing the Fair Labor Standards Act include its own version of the Fluctuating Work Week. 29 C.F.R. § 778.114. This version of the FWW is based on the Supreme Court of the United States’ prior holding in Overnight Motor Transp. Co. v. Missel, 316 U.S. 572 (1942). Like Pennsylvania’s FWW, FLSA’s Fluctuating Work Week calculates an employee’s base rate of pay by reference to the actual hours she works so, under both the state and federal rules, an employee may see diminishing returns for each hour of overtime worked. Unlike Pennsylvania’s FWW, the federal FWW assumes that, because an employee’s base pay compensates the employee for each hour actually worked, that employee has already received full pay for her overtime hours at regular rates, and is only entitled to half-time pay in addition. This distinction yields the same pay for the employee as under the state system but, because of the lower overtime multiplier, can result in dramatically different damages in misclassification cases.
Damages for Misclassifying an Employee
By way of example, consider the employee’s damages in week four if she is misclassified. Under both the state and federal Fluctuating Work Week compensation methods, the employee is entitled to the same weekly pay of $1,214.29:
If the employee is misclassified as an exempt employee and sues to recover overtime wages, however, her unpaid overtime pay is three times higher under the state calculation:
Maybe a more important distinction between the federal and Pennsylvania state calculations, however, is that the Federal regulations only permit application of the Fluctuating Work Week Method where the “employee and the employer have a clear and mutual understanding that the fixed salary is compensation . . . for the total hours worked each workweek regardless of the number of hours[.]” 29 C.F.R. § 778.114. In other words, if the employee and the employer do not have an agreement, preferably in writing, on how overtime will be calculated, the Fluctuating Work Week model is inapplicable. The alternative is a straight-time calculation, which assumes pay is based on a forty-hour workweek, not all hours actually worked. Under this framework, the fourth week’s calculation nearly doubles the wages due under the Fluctuating Work Week model:
Because of the complexity involved in calculating overtime for salaried employees, few employers intentionally offer non-exempt employees salaries. Where a non-exempt employee is salaried, it is often the result of an employer misclassification, which of course rules out a detailed offer letter that sets out the terms under which overtime will be calculated. Indeed, the federal courts are divided on whether a misclassified employer can ever qualify for the retroactive application of the Fluctuating Work Week. See, e.g., Hunter v. Sprint Corp., 453 F. Supp. 2d 44, 62 (D.D.C. 2006) (“under the circumstances presented by this case, it would be inappropriate retroactively to apply the FWW method to determine Price’s ‘regular rate’ of pay under the FLSA.”) Other federal courts have reached the opposite conclusion. See, e.g., Bailey v. Cty. of Georgetown, 94 F.3d 152, 156–57 (4th Cir. 1996) (holding FLSA regulations require an employer and employee must merely agree that a salary compensates for fluctuating hours, not that the parties must also “understand the manner in which their overtime pay is calculated.”) Still other courts have distinguished between the Department of Labor’s regulations, (which those courts contend apply prospectively,) and the earlier Missel decision, (which those courts have ruled applies retroactively to the calculation of damages.) These courts have concluded that because the Missel decision includes no mutual understanding requirement, a misclassified employee can indeed be awarded damages based on the lower Federal Fluctuating Work Week method. See, e.g., Urnikis-Negro v. Am. Family Prop. Servs., 616 F.3d 665, 676 (7th Cir. 2010).
The United States District Court for the Western District of Pennsylvania has, in a published opinion on a motion challenging subject-matter jurisdiction raising mootness following an offer of judgment, opted to follow the latter course. The court applied the Federal Fluctuating Work Week method as set forth in Missel as a basis for retroactive imposition of damages in an employer misclassification case. Seymour v. PPG Indus., Inc., 891 F. Supp. 2d 721, 736 (W.D. Pa. 2012) (“This court concludes that the best approach is not to conflate the fluctuating workweek regulation with the damages calculation.”) The Third Circuit has not addressed the question and, because the Seymour court ultimately denied the motion to dismiss, the precedential value of that decision is not totally clear. Moreover, the Seymour court declined to consider what administrative remedies might be available should the Department of Labor choose to pursue the employer for violating its regulations, or how the violation of the regulatory scheme affected the employees’ rights under the PaMWA.
At present, the issue is so confused that a Google search reveals multiple sites that claim that the Fluctuating Work Week model is prohibited in Pennsylvania, in spite of a dearth of precedent supporting such a claim; while that may be technically untrue, it remains sound practice for conservative employers at present. The better practice, however, would be that employers should recall that offering an employee a salary does not automatically make her exempt from overtime requirements and, when in doubt, the employer should pay all of its overtime eligible employees an hourly wage.