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If you aren’t familiar with how to categorize an employee exempt versus non-exempt, this guide will show you the way. You will learn ways to compensate exempt and non-exempt employees, how to organize your payroll management, and how to understand employee compensation regulations.
Why Understanding Exempt vs. Non-exempt Is So Important
Before compensating your employees, you must understand how to classify them as either exempt or non-exempt. These rules have been implemented by The Fair Labor Standards Act (FLSA), and businesses must follow them or face the risk of legal penalties. Understanding this topic will help you avoid legal issues by ensuring your workers are paid correctly.
If you aren’t already familiar, non-exempt employees are those subject to the FLSA’s regulations which include minimum wage requirements and overtime pay. Exempt employees are typically in more high-level roles, and their compensation is not subject to the FLSA’s rules.
JPMorgan Chase learned the hard way that misclassifying exempt employees is a bad idea. The firm incorrectly classified “Assistant Branch Managers” as exempt, but the workers did not actually perform duties that qualified them as such. This led to a $16 million lawsuit from employees in nine states because the firm failed to pay them overtime wages.
Quick Tips to Improve Exempt vs. Non-exempt Employee Management Today
Use a Payroll Software Tool
Using a software tool like Paycor can make compensating both exempt and non-exempt employees a smoother process. The payroll software has features like ledger integration and employee self-service. Paycor has a team of tax and payroll professionals to help you eliminate compliance issues. It also has an HR system and analytics tools.
The software lets users customize payroll with 401(k) integrations, wage garnishment services, pay on-demand features, and intuitive workflows. It has a mobile app that employees can use to see information on benefits, W-2s, and paystubs. The app shows them when their next payday is and keeps tax documents in order by date.
When designing a payroll, users can add things like salary proration, shortfall exceptions, retroactive pay calculations, and the ability to automatically reduce regular hours. Users can enable or disable notifications on minimum wage and employee payroll. W-2s can be separated by payroll or pay group, and social security numbers can be hidden or shown.
Payroll management can be a mess if you don’t keep all your data in one place. Paycor is a great option if you don’t already have a software tool, or your current one isn’t getting the job done.
Pay Non-exempt Employees a Regular Rate
Since non-exempt employees are under the jurisdiction of the FLSA, you must pay them at least the hourly minimum wage. If your state’s minimum wage is higher than the federal baseline, you must abide by the state’s minimum wage. You also must pay workers 1.5 times their wages for overtime work in most cases, which is more than 40 hours per week.
If you prefer not to make wage payments by the hour, you can pay employees a weekly regular rate as long as it meets hourly minimum wage requirements. Paying a regular rate is useful for employees that usually work the same hours per week. Using this method, employers pay workers a fixed amount every week with overtime available.
To demonstrate this practice, let’s look at an example. Suppose a company in Indiana pays an employee a weekly salary of $800 per week for 40 hours of work. This earns him an hourly wage of $20 ($800 / 40 hours = $20 per hour). This is well above the minimum wage requirement in Indiana.
During one busy week, the employee works 50 hours. In this case, the company needs to pay him $20 per hour for the first 40 hours, and $30 per hour for each additional hour ($20 x 1.5 overtime rate = $30 overtime pay). Therefore, he would earn a salary of $1,100 that week.
This is calculated by taking the overtime rate of $30 and multiplying it by the overtime hours worked of 10, equaling $300. Then, add his regular salary of $800 to the overtime earnings of $300 to equal $1,100. (Note that even if the weekly agreement had been for less than 40 hours, the company is still not required to pay overtime until the employee exceeds the 40-hour limit).
Pay Non-exempt Employees Using a Fixed Salary for a Fluctuating Workweek (FSFW)
Another way to compensate non-exempt employees with a salary is through the fixed salary for a fluctuating workweek (FSFW) method. This practice is meant for employees who work inconsistent hours every week. This method is usually less desirable for employees because they earn less for overtime work, but may be simpler and more efficient for your payroll in certain cases.
To use this method, the employee must earn a fixed salary, his or her hours worked must change from week to week, the salary cannot equal less than minimum wage in relation to hours worked, and overtime must equal 0.5 times the regular rate.
For example, an employee works 30 hours one week, 40 hours the next, and 50 hours the third week. Her fixed weekly salary is $500. Therefore, in week one and week two, she earns her regular wage of $500 even though she worked different hours. However, she earns $550 in the final week because of overtime hours.
To calculate the additional pay in the final week, take her weekly salary of $500 and divide it by the number of hours worked that week, 50, equaling a rate of $10 per hour. Next, multiply $10 per hour by the overtime rate of 0.5 to equal $5. Next, take the hourly overtime pay of $5 and multiply it by the number of overtime hours worked of 10, equaling $50. Finally, add the $50 to her weekly salary to get $550.
Link Exempt Salaries to Long-Term Needs
Salaries for exempt employees should not fluctuate every week. Even if your business has a slow week, and the exempt employee works just a few hours, he or she is still entitled to the full salary that week. Employers can suspend pay during a furlough, but the employee cannot do any sort of work during this period.
A good way to look at exempt employee salaries is to focus on your long-term goals. There will always be weeks that are busier than others, but pay should remain the same. It is okay to decrease pay if your company is facing long-term headwinds, but it may have a negative effect on employee loyalty.
Long-Term Strategies for Managing Exempt vs. Non-exempt Employees
The most important part of creating exempt and non-exempt employee compensation strategies is to understand the FLSA’s rules and other regulations.
Familiarize Yourself with Exempt Worker Qualifications
The FLSA has been updating exempt worker qualifications over the years, and it’s important to understand the most recent rules. Qualifying exempt vs non-exempt workers comes down to three factors. These include how much the employee is paid, how the employee is paid, and the employee’s job duties.
While there are some exceptions, employees need to earn $35,568 per year (as of this writing), earn wages on a salary basis, and perform specific job duties to be classified as exempt.
The first two criteria are straightforward. Employees paid on salary earn the same amount regardless of how many hours they work. And if an employee earns less than $684 per week, he or she is non-exempt.
The third one is a little more complex. Because job titles can be misleading, the FLSA focuses on employee duties instead. Exempt employees are typically responsible for more advanced duties. Exempt job duties are broken down into three categories called “professional,” “executive,” and “administrative.”
Professional job duties are those performed by traditional learned professionals. These employees need advanced knowledge and can include engineers, accountants, nurses, architects, teachers, dentists, doctors, and lawyers. Most exempt duties require education past high school and college and require employee judgment and discretion.
There is also a subcategory for creative professionals. These cover roles that require talent, imagination, and creativity. Examples include cartoonists, writers, composers, musicians, actors, and journalists. Not all creative professionals are exempt and determining which do requires investigation of each employee’s duties.
The next category is for executive duties, and employees must perform all three of the following tasks. Management must be his or her primary role, he or she must directly supervise more than one other worker, and he or she must be responsible for worker job status decisions like promotions, hiring, or firing. Supervising non-employees does not apply.
Management duties include budgeting, assigning employee duties, assessing productivity, training workers, interviewing candidates, managing sales records, administering safety precautions, disciplining employees, determining pay rates, ensuring legal compliance, planning work strategies, handling complaints from workers, and deciding which equipment to use.
The administrative duties category applies to employees who help the company run. To qualify, an employee must hit certain criteria. First, his or her duties must be non-manual or office work. Second, duties must be directly related to operation or management of the company or its customers. Finally, duties must involve independent judgment on important matters.
The administrative category can be tricky to navigate. For example, most clerical work is widely considered administrative. However, clerical work alone is not significant enough to qualify employees as exempt. Administrative employees that qualify have the authority to interpret company policies, and they directly help keep a company running.
If you’re still unsure how to categorize an employee after reading this section, visit the FLSA section of the U.S. Department of Labor’s website for more details. There are always exceptions to the rules, so this process can require careful analysis. Understanding what qualifies your employees as exempt will help you determine how to compensate them accordingly.
Understand State-by-State Differences
Exempt and non-exempt employee classifications can vary depending on what state you’re in. While the federal exemption salary is used as a minimum threshold, some states require a higher baseline salary to qualify for exemption. All states have different minimum wage laws, and non-exempt employees must be paid at least the minimum amount in their state.
The federal minimum threshold for exempt qualification is around $36,000 per year, but this isn’t enough for every state. For example, California companies with less than 26 employees require a baseline exemption salary of $49,920 as of writing. This number increases to $54,080 for companies with more than 26 employees. New York also has higher baseline salary requirements.
As of writing, the federal minimum wage is $7.25 per hour. Companies in states like Alabama, Indiana, and North Carolina can pay non-exempt employees this hourly amount. However, states like Maine, New Jersey, and California have much higher minimum wage requirements. If your company is in a state with a higher minimum wage, you must be ready to pay more to non-exempt workers.
States can also have different requirements in certain cities and counties. In addition to compensation-related laws, some states look at exempt employee duties slightly differently. Overall, if your state has stricter exempt employee rules than the federal rules, you must abide by your state. In some situations, it may be worth it to move your company to a state with more relaxed regulations.
Comply With All FLSA Regulations
In addition to exempt vs. non-exempt FLSA requirements, it’s important to comply with all of the act’s regulations. This act covers subjects like child labor laws, equal pay, and tipped employees.
Non-agricultural jobs have different child labor rules, but non-farming companies must comply with FLSA regulations. Everyone 18 years or older can perform any jobs under the act, but children who are 16 or 17 can only work non-hazardous jobs for limited hours. Children who are 14 or 15 years old can only work 18 hours every school week or three hours per school day.
FLSA’s equal pay requirements are enforced by the Equal Employment Opportunity Commission. These are used to prevent wage discrimination in the workforce. All employees in roles that require the same responsibilities, skills, and effort should be paid a similar amount.
The section covering tipped employees states that workers are entitled to their own tips unless they previously agreed to a tip-sharing system. It also allows employers to pay a lower minimum wage if an employee regularly hits a monthly tip amount. This must be disclosed before employment, and if the total does not reach minimum wage, the employer must cover the difference.
FLSA does not regulate pay raises, sick or vacation pay, holidays, meal breaks, and discharge notices. Make sure to read and understand all FLSA regulations to make sure your company is complying. Failure to do so may result in legal penalties.
Next Steps
After reading this guide, visit The U.S. Department of Labor’s website if you have more questions on the topic. For help finding an HR software tool with payroll management features, check out our guide here. Finally, you should determine which compensation strategy is the best fit depending on each employee’s classification and implement it going forward.
