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The Fair Labor Standards Act (FLSA) requires employers to classify all their employees into two categories: exempt and non-exempt.
Properly categorizing your employees as exempt or non-exempt is crucial to ensuring that they’re fairly compensated. But correct classification is also crucial for your business; it helps you minimize the risk of tax and/or legal troubles for misclassification.
So how do you know whether you’re categorizing your employees correctly?
It all depends on how much your employees are paid and what kind of work they do. We’ve summarized the concepts on this topic, but you can check out the DOL’s website for more detailed information.
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What is a non-exempt employee?
Non-exempt employees are essentially hourly employees. They’re entitled to hourly pay at the federal minimum wage ($7.25 in 2017, or the state minimum wage if it’s higher) as well as overtime.
Overtime is defined by the FLSA as any hours worked beyond the regular 40-hour work week. (That means that working more than an eight-hour day would not be classified as overtime unless you also breached the 40 hours in a week.) Overtime is paid at time-and-a-half.
What is an exempt employee?
An exempt employee, sometimes known as a salaried employee, isn’t entitled to overtime pay (or some other rights and protections afforded non-exempt workers). To be considered exempt, an employee has to earn at least $913 per week ($47,476 per year), receive a guaranteed salary, and perform certain duties defined by the FLSA.
Exemptions under the FLSA include three categories, known as the “white collar” exemptions:
- Executive employees: Generally, executive employees manage their organization or a division within their organization. In other words, they customarily and regularly oversee the work of at least two full-time employees, and have authority over the occupational status of other employees (i.e., the power to hire and fire).
- Professional employees: Professional employees usually fall into traditional “learned professions” that require advanced qualification, such as doctors, lawyers, dentists, architects, and clergy. Also included are scientists (but not technicians), pharmacists, registered nurses, some engineers, and many creative professions like actors, writers, musicians, and cartoonists. Professional employees’ work is primarily intellectual and often requires higher education.
- Administrative employees: Administrative employees do the work that keeps a business running. This generally includes vital office functions like human resources, payroll, accounting and taxes, advertising and marketing, and sometimes IT work, like network or database administration.
How do you determine if an employee is exempt or non-exempt?
The FLSA outlines three tests that can help you determine whether or not an employee is exempt:
- Salary level test: How much is the employee paid? To be exempt, an employee must earn at least $913 per week ($47,476 per year). For highly compensated employees (those who make over $100,000 per year), a special exemption may be available.
- Salary basis test: How do you determine how much the employee is paid? Exempt employees must be paid a guaranteed salary, regardless of how many hours they work in a given week. Non-exempt employees track their hours each week and are compensated accordingly.
- Job duties test: What kind of work does this employee do? Exempt employees perform either executive, professional, or administrative job duties. They do intellectual (non-manual) work that requires exercising high-level judgment and independent discretion on matters of significance, and often possess an advanced degree.
What happens if you misclassify?
It’s important to thoughtfully examine each position at your company in order to classify each employee as exempt or non-exempt. An improper classification can result in serious tax and legal consequences.
Be careful to consider your individual state’s wage and compensation requirements in addition to the federal standards. If you have a new business, the best way to ensure you’re following the laws and getting all the tax credits and benefits possible is to seek some outside help. Make sure you talk with your lawyer if you have any questions.