This month’s expert is
Rod M. Fliegel, a shareholder in the
Francisco
Most employers know they
have to pay overtime to nonexempt employees. But do you know that most bonuses
must be included in the employee’s “regular rate” that is used to calculate
overtime? If you’re not doing this, you could be underpaying overtime, which could
trigger a lawsuit. This article offers a primer on how to factor bonuses into
overtime pay.
When Overtime Includes a
Bonus
Bonuses can be mandatory
or discretionary. Mandatory bonuses, those that must be paid because a certain
event has occurred, must be included in the regular rate. Most discretionary
bonuses are also included in the regular rate, with the exception of bonuses
that may be characterized purely as gifts, such as Christmas bonuses or other
bonuses given on special occasions that have no relationship to the quality or
quantity of an employee’s performance.
The limited exception
for discretionary bonuses that are gifts arises from the federal Fair Labor
Standards Act (FLSA) and its regulations. The law provides that the regular
rate doesn’t include “sums paid in recognition of services performed during a
given period” as long as the fact that payment is to be made and the payment amount
are both at the employer’s sole discretion. Further, the bonus will not be
considered discretionary if the employer makes an advance promise to pay it
(for example, promising in January to pay a bonus in June).
The regulations also
provide that bonuses announced to employees as an inducement for them to work
more or better or to remain with the firm are considered to be part of the
regular pay rate. Examples of bonuses in this category are attendance bonuses,
individual or group production bonuses, bonuses for quality and accuracy of
work, and bonuses contingent on the employee’s continuing in employment until
the time payment is to be made.
The HR Management & Compliance Report: How To Comply with California Wage & Hour Law, explains everything you need to know to stay in compliance with the state’s complex and ever-changing rules, laws, and regulations in this area. Coverage on bonuses, meal and rest breaks, overtime, alternative workweeks, final paychecks, and more.
Making the Calculation
The practical question
becomes how to calculate the regular rate and determine the additional overtime
due, because the bonus amount must be added to the hourly rate to arrive at the
regular rate. Here’s how it is done:
• Hourly employees. Let’s
take bonuses that are paid quarterly. The bonus paid must be spread across the workweeks
for which the employee worked or had to be employed to earn the bonus. The
regular rate must be recalculated for each workweek in which overtime was
worked. The employee then must be paid the difference between the overtime
previously paid and the overtime due under the new regular rate.
• Salaried employees.
For a nonexempt employee paid on salary, the salary for the workweek should
be added to the other amounts paid to the employee for that week, including the
portion of the bonus. In California, this total must be divided by the hours worked
in that workweek, up to a maximum of 40 hours (even if more were worked) to
arrive at the new regular rate. The employee then must be paid the difference
between the overtime previously paid and the overtime due under the new regular
rate. The FLSA permits employers to divide by the true number of hours worked,
even if more than 40—but employers covered by the stricter
method, which causes the regular rate to decrease as more hours are worked.
The Percentage Bonus
Alternative
Employers should take
note of the “percentage bonus” option, which avoids the burdensome and sometimes
confusing recalculations explained above. Here’s how it works:
Assume an employee earns
$10/hour and works 40 hours in a week, plus 20 overtime hours at $15/hour (that
is, 11/2 times the employee’s
regular hourly rate). This employee is owed $400 in straight time pay plus $300
in overtime pay. The employer wishes to pay a percentage bonus of 10 percent.
This is done by paying $40 (10 percent of $400) as a straight time bonus and $30
(10 percent of $300) as an overtime bonus, for a total bonus of $70.
With a percentage bonus,
there is no need to add the bonus into the other earnings and recalculate the regular
rate because the bonus increases the straight time pay and the overtime pay by
the same percentage. Note that the percentage bonus method can also be used
with nonexempt employees who are paid on salary, provided the salary and
overtime paid for a bonus period increase by the same percentage.
Employers that use the
percentage bonus option, however, must ensure that:
1. All overtime pay due
is properly and timely paid.
2. The same percentage
is applied to both the straight time hours and the overtime hours. This means
that the employer can’t simply pay a lump sum bonus of a flat amount (say,
$500); a true percentage bonus must be an actual percentage of the straight
time and the overtime pay, and the same percentage for each.
3. The bonus is a
percentage of all compensation earned during the period; and
4. The percentage bonus
arrangement is in place before any work is performed in the period for which the
bonus would be based.
Review Your Practices
The underpayment of overtime wages can trigger significant liability
under federal and
law, including attorney’s fees. Thus, checking to ensure bonuses are properly
figured in to the regular rate should be on every employer’s list of action
items for 2007.