By the Hour or By the Job?

One of the most important decisions you’ll make regarding any new employee deals with whether to compensate him or her hourly — or put that person on salary. It’s not as cut-and-dried as you might think, and a little knowledge goes a long way toward making the best choice for your business.

By the Hour or By the Job? How an employee is classified — hourly vs. salaried, exempt vs. nonexempt — can have significant legal and financial implications for any employer By Paul Norman Originally published in the Apr/May 2010 issue of 850 Business Magazine

It’s 10 p.m. and you’re still at the office, finishing up the day’s paperwork, when it hits you. It’s time to hire some help.

But once you’ve trimmed the pool of candidates to those who you think are least likely to use the company credit card to order a copy of the latest Norah Jones CD for all 465 of their Facebook friends, you’ll likely face a host of new and potentially confusing issues. One of the most important decisions you’ll make regarding any new employee deals with whether to compensate him or her hourly — or put that person on salary. It’s not as cut-and-dried as you might think, and a little knowledge goes a long way toward making the best choice for your business.

Get Cozy with the Legalese

When deciding whether to pay an employee with a set salary or by the hour, it is a good idea to talk to an employment-law attorney specializing in wage and hour issues. However, even though you are probably more than happy to leave all that legal nonsense to those so inclined (and licensed), you must grit your teeth and accept the fact that as a business owner with employees, it is absolutely essential that you familiarize yourself with a few basics about employment law.

In the United States, wage and hour issues are governed primarily by the Fair Labor Standards Act, which establishes minimum wage, overtime pay, recordkeeping and youth employment standards affecting employees in the private sector and in federal, state and local governments. Because this is a federal law, it preempts state wage and hour laws, except in cases where such state laws are more beneficial to the employee.

Simply put, a “salaried” employee is paid a predetermined amount for a stated length of time (usually one year), whereas an “hourly” employee is paid an agreed amount for each hour or fraction thereof actually worked by that employee.

However, there is another, more important legal distinction affecting the final determination of wages, of which too few business owners are aware: “exempt” employees versus “nonexempt” employees. To be exempt means that an employee is exempt from certain requirements of the Fair Labor Standards Act relating to wages and the payment of overtime. Under federal law, a nonexempt employee must receive at least minimum wage for all hours worked, as well as appropriate overtime pay for all hours worked in excess of the standard 40-hour workweek. Both exempt and nonexempt employees may be salaried, although certain earnings thresholds exist that may change a particular employee’s classification from nonexempt to exempt once he or she earns the mandated amount for certain work-related duties as described in the Fair Labor Standards Act.

Many misinformed entrepreneurs tell me, “I know all about this. My friend who owns a business told me that all salaried employees are exempt and all hourly employees are nonexempt. Right?” To borrow a phrase from the great sportscaster Lee Corso, “Not so fast, my friend.”

The labor law requires that classification of an employee as exempt or nonexempt be based on the duties of the job. Because classification of an employee is not always intuitive or even logical, employers cannot rely on the job title or the way an employee is paid, i.e. salaried or hourly, when classifying an employee as exempt or nonexempt. It is true, however, that due to the nature of their work, a large percentage of salaried employees fall into the “exempt” category.

Still confused? Think of it this way. Exemption and salary status are two different things that can exist together in the same position. For example, a business may employ a salaried, nonexempt staff position such as an administrative assistant. This employee is paid on a salary basis, but because of the position’s duties and salary level (under $455 per week or $23,660 per year, as defined in the Fair Labor Standards Act), he or she is nonexempt under the guidelines listed in the law and therefore eligible to receive pay for overtime.

A change in job description and/or increase in salary over the stated threshold can change an employee’s classification from nonexempt to exempt. Jobs typically warranting “exempt” status include, but are not limited to, “white-collar” administrative, executive and professional employees, certain computer-related employees, select sales workers and highly compensated employees (those who make more than $100,000 per year). For a more exhaustive list, refer to the Fair Labor Standards Act or consult the Florida Agency for Workforce Innovation, the U.S. Department of Labor or your friendly local wage and hour attorney.

Paying Salaried Employees

Exempt employees must receive their full salary every pay period. If your salaried employee sits around all day waiting for work that never arrives because of a slow period for the business, you must still pay that employee’s salary. If you had hourly employees, you could usually send them home early and save a few bucks. The same rule applies if the salaried employee doesn’t complete his or her work with the usual quality. Of course, actions you can take in response to poor performance by employees are a whole other story.

Usually, you may not reduce a salaried exempt employee’s pay for absences of less than a full day. However, if the employee leaves three hours early for a medical appointment, the three hours may generally be deducted from the employee’s sick leave balance. Exempt employees also cannot have their salary reduced for absences caused by the employer or the operating requirements of the business.

Yes, Virginia, Some Salaried Employees Can Collect Overtime

Salaried, exempt employees are not eligible for overtime pay. A good example is the associate attorney at the music-business law firm of Lyre & Lute, P.A., who doesn’t get paid any more for her 70-hour week than she would for a 40-hour week. Conversely, hourly and salaried nonexempt employees, such as the administrative assistant in our earlier example, are generally paid 1.5 times their hourly rate for each hour worked in excess of 40 for a given workweek. Employers are usually on the hook for such overtime pay even if the excess hours were not authorized before an employee worked them. Remember that eligible employees, even if salaried, cannot waive their right to overtime pay, so having them do so, even in writing, is in direct violation of the Fair Labor Standards Act and a major no-no. In other words, in the eyes of federal labor law, there is no such thing as “donated” time or “working off the clock.”

If an employee is nonexempt and works more than 40 hours in a workweek, get ready to pay overtime. Also, switching an employee’s classification between exempt and nonexempt, particularly if such a change is made more than once, must be done with caution, if at all. Such moves tend to elicit the scrutiny of the U.S. Department of Labor as a potential means for avoiding the payment of overtime.

Contracts

The standard employment contract for salaried employees involves an at-will relationship, meaning that either party can terminate the employment at any time, for any reason — or for no stated reason whatsoever. However, some salaried employees enter into an employment contract with their employers that specifically lays out the duties of the position, as well as performance expectations, benefits and grounds for termination.

A contract might tell employees what they need to do and how they need to do it, but will not excuse the employer from obligations to pay overtime to those who are eligible. Relevant general rules that apply to salaried employees with regard to contracts are that an employer may not terminate an employee for any reason not contained in the employment contract or without the employer following its stated policies and procedures regarding termination.

What Does It All Mean?

The bottom line is that a salaried, exempt employee can be required to work more than 40 hours per week. This often manifests itself in the form of working on weekends or holidays, as well as being required to attend meetings outside of regular work time. The trade-off is that the salaried employee will be paid even if there is no work to do, and is often paid more than other employees. The salaried employee also will not be docked any pay for coming in late, taking a few hours to tend to personal matters, or for sick leave or vacation days unless the employee takes time off after using up all available leave.

In other words, the salaried employee’s paycheck will be consistent. If an employee is salaried and nonexempt, he or she makes a lower salary that satisfies the requirements for nonexempt status in the Fair Labor Standards Act, but can receive overtime pay for those late nights on the job. So as you go forth and hire, remember to be mindful of the duties to be performed by your new employees so that you can find the best payment option for your business while maintaining a squeaky-clean record with the powers that be.

Test Your Employee Classifications

To be exempt from overtime eligibility, an employee must meet all of the criteria for their occupation.

Executive Employees

• Earns at least $455/week

• Primary duty is management of the enterprise or of a recognized department of the company
• Regularly directs the work of two or more other employees
• Has the authority to hire and fire or whose suggestions/recommendations on hiring, firing, promotion, etc. of other employees are given particular weight

Administrative Employees

• Earns at least $455/week
• Performs office or non-manual work directly related to the management or general operations of the employer or its customers
• Primary duty includes the exercise of discretion and independent judgment in matters of signifcance

Professional Employees

• Earns at least $455/week
• Performs work requiring advanced knowledge (primarily intellectual in character), in a field of science or learning requiring a prolonged course of specialized intellectual instruction
• Primary duty includes work requiring invention, imagination, originality or talent in an artistic or creative endeavor

Other Specialized Exempt Categories

The U.S. Department of Labor provides additional tests for other special job categories such as computer employees, outside sales staff and more. You can find detailed Fair Labor fact sheets, statistics, training, regulations and more at the U.S. Department of Labor, Wage and Hour Division Web site at dol.gov/whd.