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DOL’s Final Overtime Rule and Unique Implications for Government Contractors  

May 23, 2016

Today, the U.S. Department of Labor (DOL) published its final rule modifying the “white collar” employee exemptions to the Fair Labor Standards Act’s (FLSA) minimum wage and overtime pay requirements. By now, you likely have heard about the requirements of the final rule and how it will generally affect employers. For federal service contractors, DOL’s final FLSA rule will also affect their obligations under the Service Contract Act (SCA). This alert provides an overview of the final rule and contractor-specific considerations.

At a high level, DOL’s final rule significantly increases the salary thresholds at which employees would qualify for the exemptions, includes a mechanism to automatically update the compensation thresholds, and allows certain non-discretionary bonuses, incentive pay, and commissions to count towards the salary threshold. The rule becomes effective on December 1, 2016.

The key features of the final rule include:

  • Standard Salary Threshold. The standard salary threshold will now be set to equal the 40th percentile of earnings for full-time salaried workers in the lowest-wage Census region, currently the South. This raises the threshold from $455 a week to $913 a week (or $47,476 for a full-year worker). DOL estimates that as a result of this increase, 4.2 million employees who primarily perform executive, administrative, or professional duties will no longer fall within the white collar exemption and therefore will be “overtime-protected.”
  • Highly Compensated Employee (HCE) Threshold. Highly compensated employees are those who are paid at or above a certain salary threshold and customarily and regularly perform at least one of the exempt duties or responsibilities of an exempt executive, administrative, or professional employee. The HCE annual compensation level will now be equal to the 90th percentile of earnings for full-time salaried workers nationally. This raises the threshold from $100,000 to $134,004 a year. DOL explained its determination to raise the salary threshold by citing to the fact that the percentage of salaried employees who earn at least $100,000 annually has increased substantially to approximately 17 percent of full-time salaried workers, which is more than twice the share who earned that amount when the threshold was last set in 2004.
  • Automatic Updates Every Three Years. The salary and compensation thresholds will automatically update every three years, beginning January 1, 2020. For the standard exemption, each update will adjust the threshold to the 40th percentile of full-time salaried workers in the lowest-wage Census region, estimated to be $51,168 in 2020. For the HCE exemption, each update will adjust the threshold to the 90th percentile of full-time salaried workers nationally, estimated to be $147,524 in 2020.
  • Bonuses, Incentive Payments, and Commissions. The final rule allows up to ten percent of the salary threshold for non-highly compensated employees to be met by non-discretionary bonuses, incentive pay, or commissions, provided these payments are made on at least a quarterly basis. In explaining why DOL excluded highly compensated employees from this provision, it stated that employers can already credit such payments toward the portion of the HCE total compensation requirement in excess of the standard salary level, so it would be inappropriate to allow such payments to also satisfy a portion of the standard salary level for highly compensated employees.
  • Duties Test. The requirement that white collar employees perform executive, administrative, or professional duties to qualify for the exemptions is known as the “duties test.” The final rule does not make any changes to the duties test. DOL declined to revise the duties test in part based on DOL’s belief that the increases to the standard salary level threshold, coupled with the automatic updating, adequately address concerns that the qualitative nature of the duties test will generally make lower-level employees exempt and thus ineligible for overtime.

To prepare for compliance with the FLSA final rule, employers have a number of options to respond to the changes to the salary threshold. These options include: (1) raise salaries of affected workers to maintain the exemption; (2) pay current salaries with overtime pay after 40 hours per week; (3) convert a salaried worker making less than the new salary threshold to hourly status; and (4) adjust workload and schedules to spread work hours, which may necessitate hiring additional workers.

Along with the above considerations, DOL’s final FLSA rule may uniquely impact government contractors in the following ways:

  • SCA Coverage Impacts. The definition of “service employee” in the SCA is linked to the FLSA. Bona fide executive, administrative, and professional employees who are exempt from the FLSA are not covered by the SCA. For this reason, the final rule’s narrowing of FLSA-exempt employees has increased the number of employees covered by the SCA. Contractors with affected SCA employees, like all employers, have a number of options for responding to the final rule. In weighing these options, contractors should keep in mind that although paying overtime wages for a worker that was previously SCA-exempt is now required by law, raising the salaries of affected workers to maintain the SCA exemption or hiring additional workers is not. Whether the increase in worker wages – from increased salaries, overtime pay, or fringe benefits – is due to a requirement of the law or just a contractor business preference may impact whether a contractor is able to receive a price adjustment. Given the expansion of the number of workers now covered by the SCA, contractors should also review fringe benefit pools to ensure that they are compliant and cover any additional SCA-covered workers. Finally, contractors should review SCA-exempt service contracts to confirm whether any might now be SCA covered because they are no longer going to be performed essentially or exclusively by FLSA-exempt personnel.
  • Non-displacement Rule. The expansion of the number of SCA-covered workers will expand the set of predecessor employees covered by the Non-displacement Rule and to whom covered successor contractors may be required to offer employment rights of first refusal.
  • Paid Sick Leave Proposed Rule. DOL’s final rule may ultimately have limited impacts on DOL’s proposed paid sick leave requirements. As proposed, the sick leave rule would apply to both FLSA-exempt and non-exempt personnel, such that shifting employees from FLSA-exempt to non-exempt should not affect contractors’ leave obligations.
  • Fair Pay and Safe Workplaces Proposed Rule. Keep in mind that violations of the FLSA and SCA are included in the types of violations contractors are required to report under the proposed Fair Pay and Safe Workplaces rule.
  • Automatic Three Year Indexing and Pricing Considerations. In preparing pricing proposals for multi-year contracts, contractors should keep in mind that, under DOL’s final rule, salary and compensation thresholds will automatically be adjusted every three years. As a result, pricing teams should be aware that employees who are FLSA-exempt (and thus SCA-exempt) at proposal time may become non-exempt during performance solely by virtue of automatic FLSA salary and compensation threshold updates.

In the end, contractors have many options to consider when determining how best to comply with DOL’s final overtime rule and other associated rules. The method for compliance will require a careful analysis of the organization’s workforce, how much employees currently earn, how often employees work overtime, and contract requirements.