Wednesday, February 22, 2012

Sitting on the dock … of the paycheck (or how to lose an employee’s exemption in 1 easy step)

The hallmark of the key exemptions under the Fair Labor Standards Act (administrative, executive, and professional) is that the exempt employee must be paid a salary of at least $455 per week. An employee is paid on a salary basis when the employee receives the same amount of pay each pay period, without any deductions. For this reason, if you take deductions from an exempt employee’s weekly pay, you place their exemption at risk. This error could prove costly. The lost exemption does not only apply to the employee against whom the deduction was taken, but also to all employees in the same job classification working for the same managers responsible for the deduction.

Yesterday, in Orton v. Johnny’s Lunch Franchise, LLC [pdf], the 6th Circuit illustrated the implications of these rules. Johnny’s Lunch employed Orton as a vice president, at an annual base salary of $125,000. The employer suffered from financial difficulties and was unable to make its payroll. Thus, from August 2008 until Johnny’s Lunch laid off the entire executive staff on December 1, 2008, Orton worked without receiving any pay. The 6th Circuit concluded that the employer’s failure to pay Orton his full salary for those four months eradicated the exemption, which, in turn, put the employer on the hook not only for Orton’s unpaid salary, but also any overtime he worked during those months.

The Court started by defining the scope of an “improper deduction” from an employees salary: “An employer who makes improper deductions from salary shall lose the exemption if the facts demonstrate that the employer did not intend to pay employees on a salary basis.” 29 C.F.R. § 541.603(a). The Court concluded that Orton’s employment agreement (which established his annual salary) was irrelevant to the issue of whether he lost his exemption: “The question is therefore not what Orton was owed under his employment agreement; rather, the question is what compensation Orton actually received.” Because Orton did not receive his full salary for the weeks in question, he lost his exemption.

All of this begs the question — what is an employer to do if it cannot afford to pay an otherwise exempt employee his or her full salary, and needs to make deductions to keep the doors open? The 6th Circuit answered this question, too:

That is not to say a company with cash flow issues is left with no recourse. Nothing in the FLSA prevents such an employer from renegotiating in good faith a new, lower salary with one of its otherwise salaried employees. The salary-basis test does not require that the predetermined amount stay constant during the course of the employment relationship. Of course, if the predetermined salary goes below [$455 per week], the employer may be unable to satisfy the salary-level test, which explicitly addresses the amount an employee must be compensated to remain exempt.

I firmly believe that employers should not pigeonhole legal issues and business issues. Sometimes (like with social media and the NLRB) business issues impact and guide legal decisions. In this case, the legal issues must guide the business decision. The the legal issues surrounding the proper payment of an employee’s salary under applicable wage and hour laws and regulations directly impact the business issues of remaining solvent. An employer cannot navigate that business decision without understanding and accounting for the legal implications of failing to pay exempt employees their salaries.