The DOL's latest overtime proposal could impact your payroll

ARTICLE | December 04, 2023

On August 30th, the Department of Labor (DOL) proposed a rule extending overtime protections to approximately 3.6 million more employees. The proposed new rule marks a significant change to the current Fair Labor Standards Act’s (FLSA) overtime exemptions and will undoubtedly have far-reaching implications for businesses. 

The proposal is subject to a 60-day comment period, which began on September 8th. The new rule is expected to go into effect as early as the beginning of 2024. 

Overtime essentials: who’s exempt and who’s not under the FLSA? 

The FLSA requires employers to pay non-exempt employees overtime at a rate of at least 1.5 times their regular rate for hours worked beyond the standard 40-hour workweek. However, not all employees are entitled to overtime pay. To be considered exempt from the FLSA’s overtime provisions, an employee must earn a minimum of $684 per week (or $35,568 annually) and perform specific job duties. The main exemption categories, each with its own duties test, include: 

• Executive: this generally pertains to supervisors or those in managerial roles who regularly supervise two or more other employees and have authority in hiring, firing, or promotions. 

• Administrative: these are office or non-manual workers who perform tasks directly related to the management or general business operations of the employer. Their roles must also involve a level of discretion and independent judgment regarding significant matters. 

• Professionals: this exemption can be broken down into “learned professionals” and “creative professionals.” Learned professionals have advanced knowledge in fields like science or academia, while creative professionals work in fields like writing, music, or art. 

Highly compensated employees (HCE) are also exempted from overtime rules. These employees are exempt if they receive at least the standard salary threshold ($684 per week) without including bonuses, incentives, and commissions, and their total compensation is at least $107,432. They must also perform one or more of the exempt duties of an executive, administrative, or professional.

Proposed rule changes

The proposed changes will increase the salary threshold for overtime-exempt employees from $684 per week ($35,568 annually) to $1,059 per week ($55,000 annually). The salary requirement for highly compensated employees will increase from $107,432 to $143,988 annually. 

This modification will extend overtime protections to millions of workers who are currently ineligible due to their salary level. 

U.S. territories

From 2004 to 2019, the FLSA overtime rules extended to territories where the federal minimum wage applied, including Puerto Rico, Guam, the U.S. Virgin Islands, and the Commonwealth of the Northern Mariana Islands. The new rule will restore this practice. 

Also, American Samoa will follow a unique structure under the updated regulations. Until the minimum wage in American Samoa matches the federal minimum wage, employees there will have an overtime salary threshold equal to 84% of the standard salary level. Ninety days after the minimum wage in American Samoa aligns with the federal minimum wage, the full standard weekly threshold of $1,059 will apply. 

Automatic updates

The DOL will also implement an automatic updating mechanism to adjust the salary thresholds every three years to reflect current wage data. This mechanism is designed to keep overtime protections from eroding over time. 

Despite these proposed changes, the current duties test is not expected to be altered. 

Impact on employers

The forthcoming rules present both operational and strategic challenges for employers. 

Employers will need to assess whether it makes more sense to increase employees’ salaries to meet the new threshold or to reclassify them as non-exempt and prepare to pay overtime. This is not a straightforward decision and requires careful analysis. It helps to review existing data on the number of hours salaried employees work to determine which option is more efficient  - and this should be evaluated on a case-by-case basis. 

If you have multiple salaried employees making $50,000 annually, they may not be putting in the same amount of hours. If an employee is working 40 hours a week, on average, they would not be entitled to overtime, so keeping them at $50,000 and reclassifying them as an hourly employee would likely be the best option. However, if an employee regularly works more than 45 hours a week, it would make more sense to increase their salary rather than pay them overtime. 

Of course, hours worked are not necessarily the only factor in this analysis; it may also help to look at the return on investment (ROI) you receive from different employees before deciding how you will compensate them in light of the new changes. 

Administrative challenges

Transitioning employees from exempt to non-exempt status isn’t just a matter of changing their pay structure. It requires adjustments to HR systems, employee handbooks, and potential shifts in company culture and employee morale. Moreover, employers will need to implement time-tracking mechanisms for newly non-exempt workers, ensuring accurate recording of hours worked, breaks, and overtime. 

Regional disparities 

The ramifications of these changes might be felt differently across regions. Large metropolitan areas generally have higher wages due to higher living costs. Thus, employers in these regions may already be paying salaries close to or above the new thresholds. 

However, outside of these metropolitan areas - especially in rural settings or smaller cities where the cost of living and prevailing wage rates are lower - employers are more likely to encounter salaries that fall below the new threshold. For such employers, the new rules could result in a disproportionately higher number of employees becoming eligible for overtime. This could lead to increased labor costs unless employers choose to cap working hours for these employees. 

Another potential consequence is the indirect impact on wage negotiations. If certain employees receive raises to meet the new threshold, it might create wage compression, where there is little differentiation in pay among employees with varying experience and responsibilities. This could, in turn, require broader wage adjustments to maintain internal pay equity and morale. 

Start preparing for the changes

As the impending rule changes draw closer, it is important to plan ahead. The decision to adjust salaries or reclassify employees can have lasting impacts on your company’s bottom line and employee morale. 

An experienced CPA can offer a personalized analysis and help you assess the potential implications of each avenue. Their insight can help you anticipate challenges, optimize cost strategies, and ensure compliance with the new rules. For more information, please contact our office.