Based on what we are seeing in the marketplace, most employers seem to have settled on financial and organizational strategies to implement the new overtime pay rule. According to the recent Xerox HR Services survey, Compensation Planning for 2017, more than four out of five participating companies also have plans in place to train managers about the new rules and communicate these changes to employees.
But as we draw closer to December 1 and winter approaches, some unintended consequences may hit employers like a polar vortex. There are five key categories to consider.
Raising employee salaries to maintain exempt status can affect benefits that are based on a multiple of an employee’s pay, such as employer-provided life insurance coverage. Commonplace benefits that are based on a percentage of pay, such as 401(k) and 403(b) savings plans, can have a big cost impact on employers’ budgets and bottom lines due to increased employer matches. Changes in short-term and long-term disability benefit costs can also add up. Organizations that increase base pay to maintain their employees’ exempt status will obviously see payroll costs increase as a direct result, plus they may experience indirect expenses related to a substantial increase in benefit costs and higher payroll taxes.
Organizations that use exemption status to determine eligibility for certain benefits or variable pay programs will want to think through the implications of a shift in the workforce if some exempt employees become nonexempt. In some cases there may be cost savings, but those savings may be offset by increases in overtime pay and lower employee satisfaction that can be very costly. This is especially true when employee responsibilities are closely tied to customer satisfaction. Keep in mind too that incentive payments and bonuses are subject to overtime pay in many cases.
The Internal Revenue Service requires retirement plan sponsors to test their plans annually to ensure they are not discriminating in favor of highly compensated employees (HCEs). These rules are separate from those under the Fair Labor Standards Act (FLSA). A change in exemption status and compensation to satisfy the overtime rule may affect employee eligibility, contributions and benefits, and also may impact compliance with IRS non-discrimination regulations. Each situation should be carefully evaluated regarding the ramifications and potential outcomes of compensation-related changes.
Reclassifying previously exempt employees as nonexempt can lead to lower productivity for two reasons:
- Less work performed when work hours are cut back to avoid paying overtime.
- A drop in productivity, caused by employee feelings of being demoted from exempt to nonexempt. Employee feelings can be very real and very powerful.
In the worst-case scenario, both situations occur simultaneously.
A primary reason an employer may reclassify employees from exempt to nonexempt is to lower the projected payroll cost associated with increasing pay to the new exemption threshold of $913 weekly or $47,476 annually. If formerly exempt employees were working beyond regular business hours that extra work isn’t going to suddenly disappear. If it does, great! It wasn’t worth doing it in the first place. The more likely scenario is that the work will still need to be performed, either at a cost 1.5 times more, or through additional employees hired to perform the work.
The new overtime rule is meant to build on the FLSA’s original premise — to provide “a fair day’s pay for a fair day’s work.” But its implementation may create a number of unintended consequences in the form of either direct or indirect costs. Employers should beware of these situations, plan carefully, and proceed thoughtfully. Make sure that your plan includes broad-based manager training and an effective employee communication program to ensure compliance.