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The federal Fair Labor Standards Act (“FLSA”) requires that non-exempt or “overtime-eligible” employees be paid one and one-half times their regular rate of pay for every hour worked over 40 hours in a workweek. For example, if an employee’s regular rate is $12 per hour, that employee must be paid $18 per hour ($12 x 1.5) for each overtime hour worked over the course of a workweek. Failure to properly pay for overtime work can end up costing an employer millions of dollars in back wages, penalties, and attorney fees.

Some employees, however, are “exempt” from the requirement to be paid extra when they work overtime. There are dozens of exemptions under federal law, with the most commonly-used being those for Executive, Administrative, and Professional employees--commonly referred to by the acronym “EAP” or as “white collar employees.” Another popular exemption covers Outside Sales employees.

A much lesser-known and rarely-used exemption is the so-called “Inside Sales” exemption, also known by the section of the law in which it appears as the “7(i) exemption.” That section of the FLSA provides an exemption from the law’s overtime compensation requirement for commissioned employees employed by a retail or service establishment if both of the following conditions are met:

  • the employee’s regular rate of pay exceeds one and one-half times the FLSA’s minimum wage; and
  • more than half of the employee’s compensation for a representative period (not less than one month) represents commissions on goods or services.

The current federal minimum wage is $7.25 per hours. Thus, to qualify for this exemption, an employee would need to work in a retail or service establishment and earn the equivalent of $10.88 per hour, with more than half of that amount -- i.e., the equivalent of $5.45 per hour -- coming from commissions.

Under the FLSA, an employer is a retail or service establishment if 75 percent of its annual dollar volume of sales of goods or services (or of both) is not for resale and is recognized as retail sales or services in the particular industry. Such an establishment typically sells goods or services to the general public, serves the everyday needs of the community, is at the very end of the stream of distribution, disposes its products and skills in small quantities, and does not take part in the manufacturing process, according to the regulations of the U.S. Department of Labor (“DOL”).

A major reason this exemption is rarely used is that, until now, the regulations excluded 89 types of establishments that one would have thought are retail or service establishments. These included accounting firms, aircraft and aeronautical equipment sellers, banks, building and construction contractors, medical and dental supply companies, tax preparers, and travel agencies, among others.  The regulations provided no explanation for why these 89 types of establishments were excluded. Indeed, the preamble to DOL's regulations quotes one court that called the list "incomplete, arbitrary, and essentially [a] mindless catalog," and another court that said that "the list does not appear to flow from any cohesive criteria for retail and non-retail establishments."

Now, DOL has deleted the list of 89 excluded types of companies from the regulations. Instead, the general criteria summarized above – including whether the establishment primarily sells goods or services to the general public to serve the everyday need of the community – will govern the availability of the “Inside Sales” exemption. As a result, the exemption will be much more widely available.

On its face, this change affects only a subset of commissioned workers in retail establishments. However, there are several reasons why all employers should take notice.

First, any time the FLSA gets media attention, which it will now that DOL has announced this new rule, employees who think they are not being paid correctly start asking questions. And, there are many aggressive plaintiffs’ attorneys ready and waiting to help these disgruntled employees – who may be even more disgruntled in the wake of a recent furlough or cut in wages. The FLSA is already the most litigated law in the federal court system, and it will not be surprising if the number of new cases increases. Therefore, every employer should be taking steps to find and correct compliance mistakes before employees and their lawyers do.

Second, the FLSA and its state counterparts are complicated laws, and many well-meaning employers are currently violating these laws unintentionally and unknowingly. One major difficultly for an out-of-compliance employer that wants to correct its practices is how to explain to employees why they are suddenly getting bigger checks. Using a change in the law as a reason to evaluate one’s compliance may be the best “cover” an employer can have.

As such, there are a number of practical tips and steps employers should be considering:

  • Don’t rely on common sense to calculate your employees’ pay. Instead, there is no substitute for knowing both the applicable federal law and the law of the state where your employees work. Get help as needed to understand applicable laws.
  • Federal and state law may differ. Generally, the employee is entitled to the benefit of whichever law is more favorable to the worker. For example, an employee may be exempt under federal law but nevertheless entitled to overtime premiums under state law.
  • Overtime pay is generally one and one-half times the “regular rate,” but it is not always obvious what the “regular rate” is. Commissions, bonuses, and certain other payments—even some fringe benefits—can change the regular rate retroactively.
  • Perform a wage-hour compliance audit now, and every few years moving forward, to detect problems, reduce expensive lawsuits, and help keep your company legally and financially healthy.
  • Bringing employees back from a furlough or other work interruption may be a perfect time to clarify old policies or introduce new ones. Therefore, now may be the perfect time to conduct that compliance audit mentioned above.

The views expressed herein are solely the views of the authors and do not represent the views of Brown Rudnick LLP, those parties represented by the authors, or those parties represented by Brown Rudnick LLP.  Specific legal advice depends on the facts of each situation and may vary from situation to situation.  Information contained in this article is not intended to constitute legal advice by the authors or the lawyers at Brown Rudnick LLP, and it does not establish a lawyer-client relationship.