March 8, 2010Client Alert

Exempt or Non-Exempt - That is the Question

Classifying employees as exempt or non-exempt is one of the most frequently-litigated wage and hour issues. Improper classification of employees can lead to class action cases that expose employers to substantial risk and potential liability.

The recent case Pellegrino v. Robert Half International, Inc. (“RHI”), 2010 WL 316808 (Cal. App. 4th Dist. Jan. 28, 2010), serves as a reminder that employers should re-examine the way they classify employees to avoid violations. In Pellegrino, the plaintiffs were recruiters who claimed that RHI violated Labor Code provisions pertaining to overtime, commissions, meal periods, and itemized wage statements. RHI argued that the recruiters were exempt from wage and hour laws because the employees qualified for the administrative exemption.

Non-exempt employees are entitled to overtime pay in an amount equal to one and one-half times their regular rate of pay for all hours worked in excess of 40 hours in a work week. Exempt employees receive a weekly salary intended to cover all hours worked, and thus are not entitled to overtime pay under the Fair Labor Standards Act ("FLSA"). Employers must keep in mind, however, that the fact that an employee receives a salary is not sufficient to make that employee exempt under the FLSA.

When making classification determinations, employers should begin with the presumption that all employees are non-exempt because employers bear the burden to prove that an employee does not qualify for overtime pay. An employee may be classified as exempt only if the employer can demonstrate that the employee plainly and unmistakably meets all of the criteria for the applicable exemption. Generally, an employee must satisfy three tests to be properly classified as exempt: (1) amount of compensation test; (2) method of compensation test; and, (3) duties test.

Under the amount of compensation test, an employee must receive compensation of $23,660.00 annually in order to be exempt under most of the FLSA exemptions. The FLSA also provides that employees who earn a total annual compensation of at least $100,000.00 can qualify for exempt status under a “relaxed” version of the duties test, discussed below.

To qualify for exempt status, employees generally must be paid on a “salary basis.” This means that exempt employees must regularly receive a predetermined amount of compensation for each pay period, which is not subject to change based on the quality or quantity of work.

If the employee satisfies both the amount of compensation and method of compensation tests, the final step is the appropriate duties test. The five most commonly utilized exemptions under this test are the executive exemption, administrative exemption, professional exemption, computer-related occupation exemption, and outside salesperson exemption.

In the Pellegrino case, the Court found that the recruiters did not meet the administrative exemption as the employer had claimed, and therefore were owed overtime. To qualify for the administrative exemption, an employer must prove that the employee: performs office or non-manual work directly related to management policies or general business operations; customarily and regularly exercises discretion and independent judgment; performs under only general supervision work along specialized or technical lines requiring special training; is engaged in the activities meeting the test for the exemption at least 50 percent of the time; and earns twice the state’s minimum wage.

The Court held that the recruiters were trained in sales and evaluated on how well they met sales production numbers, which are not exempt duties. The recruiters also followed a company policy that required them to rotate their duties each week among sales, administration, and recruiting. In the end, six recruiters ended up receiving $615,000 in overtime wages because of the misclassification.

This case helps to illustrate that simply because an employee has a high-level title and seems to fall within common notions of the employee's level of responsibility and classification does not mean that the employee is properly classified. Employers also need to consult state law, which may vary from the requirements of the FLSA. Under both federal and state law, courts will strictly apply the criteria for the applicable exemption to determine whether the employer has improperly classified the employees as exempt and must pay the employee overtime, along with backpay and other potentially significant damages.

If you have any questions or need any assistance in classifying employees as exempt or non-exempt, please contact one of the authors of this alert or your Michael Best attorney.

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