There are hundreds of millions of full-time and part-time workers in the US. Some employees are exempt, meaning they don’t qualify for the minimum wage or receive overtime pay, and they generally earn a salary. They do, however, often earn more than what they’d take home if they made minimum wage and worked a 40-hour week.
On the flip side, many employees are non-exempt. These workers usually earn an hourly wage and can receive one and a half times their regular hourly wage for working over 40 hours in any seven-day week.
It can be tempting for a business on a budget to pay its workers on a salaried basis (rather than hourly), due to that fact that salaried employees can work long hours without being paid overtime. But improperly classifying workers can lead to much greater expenses down the line, like overtime penalties and wage disputes.
Outside of that, to correctly run payroll you want to make sure you have a grasp on all the differences. Let’s take a look at exempt vs. non-exempt employees, and what it means to you and your business.
Who determines exempt vs. non-exempt classification
TheFair Labor Standards Act (FLSA) monitors overtime pay, equal pay, record-keeping, child labor laws, and work conditions for employees. It also establishes minimum wage and standard work week hours, and determines an employee’s classification as exempt or nonexempt. The law affects both full-time and part-time workers in the private sector and in federal, state, and local governments.
Guidelines for exempt employees
On the surface, making the distinction between exempt and non-exempt employees seems fairly simple: An exempt employee is not eligible for overtime. Non-exempt employees are.
Dig deeper, however, and you’ll notice that the federal requirements under FLSA for exempt employees call for employers to meet three prerequisites. All three conditions must be met. For the employee to be considered exempt, he or she must:
- Be paid on a salary basis.
- Earn at least $23,666 per year.
- Have higher-level job responsibilities.
To qualify for exempt status, workers must be paid a salary instead of an hourly wage. Keep in mind, however, that there are many non-exempt employees who are paid a salary. So, this one test doesn’t necessarily mean an employee is exempt.
Exempt employees must be paid a gross salary (as opposed to hourly wage) of at least $455 per week ($23,666 annually). For example, salespeople who receive only commission would be non-exempt unless they were also guaranteed a minimum salary that meets gross pay requirements.
In addition, exempt employees must perform high-level exempt job duties, which are broken down into these categories: executive, professional, administrative, computer, and outside sales.
Examples of exempt employees can be found on the Department of Labor’s FLSA Advisor website. You should also know what types of exemptions are made for each job title or description. For instance, if youth are employed as actors, they may be exempt from FLSA child labor regulations, and aircraft salespeople are exempt from overtime regulations.
During the hiring process, be upfront with your exempt employees about the fact they don’t qualify for overtime wages. This is usually the function of human resources and will help prevent any misunderstandings or disputes about wages that may come up in the future.
Higher-level exempt job duties
Since there’s some confusion about what job duties qualify or who is considered a professional employee in a high-level role, we’ve broken it down to make it all a bit easier to understand.
During general business operations, the primary duties of the executive employee must be managing the business or a recognized department or subdivision within the company. He or she must manage or direct two or more full-time employees and have the authority to hire or fire employees.
In addition, the professional in a high-level role must have a green light to make suggestions regarding the advancement and promotion of other employees.
Exempt Learned Professional
Learned professional employees’ primary role must include work that requires advanced knowledge and the use of consistent judgment and discretion. These roles must be in the fields of learning or science, such as engineering, law, or medicine, and they must be certified (hold a degree) in their particular field.
Certain employees in the creative field also qualify as learned professionals. To qualify for the creative professional exemption, the employee must use their talents in a recognized field of creative or artistic endeavor, and they must utilize their talents to invent, imagine, and apply their originality to their field. These roles may include actors, musicians, and writers.
Some learned and creative professionals may be governed by additional labor laws if they’re part of a union. In these cases, the union (such as the Screen Actors Guild) dictates certain labor terms relating directly to overtime, working conditions, and job responsibilities.
The employee’s primary duties must include office or non-manual work that is directly related to the employer’s business operations. An exempt administrative employee must also be required to exercise independent judgment and discretion regarding matters of significance to the employer or the employer’s clients.
Your exempt computer employee must be a computer programmer, systems analyst, software engineer or similar worker in the computer field, and must perform certain duties, including design, documentation, development, analysis, creation, modification, or testing of computer systems and programs, including prototypes.
The employee must be capable of the creation and modification of computer programs as they relate to operating systems and systems analysis procedures. This includes consulting with users to determine software and system specifications and hardware. Any combination of the above skills and abilities with the same level of expertise will qualify your employee as a professional employee in a high-level role.
Exempt Outside Sales
As defined by the FLSA, for the employee to be exempt in an outside sales role, he or she must be making sales or getting orders or contracts for services, and must perform their primary duties outside of the company’s place of business.
Guidelines for non-exempt employees
Non-exempt employees are any employees who receive less than $455 gross per week in pay. Employers are required under the FLSA to pay these employees at least the federal minimum wage for each hour worked and time-and-a-half for any hours worked beyond their normal schedule, typically 40 hours.
Certain jobs in the public sector (such as police officers or healthcare workers) may operate on a different schedule, as dictated by the Department of Labor. This may include claims for “off-the-clock” work like work performed before or after shifts, after-hours paperwork, or working through meals.
The United States Department of Labor provides a lot more information about whether or not overtime pay is required in their Overtime Security Advisor.
The price of overtime
No matter how many hours it takes to complete a task, exempt employees are usually expected to hang around until the job is done, whether it takes 30 hours or 60. That’s because an exempt employee’s wages don’t change based on how many hours they work, and they aren’t paid more for working more than 40 hours per week.
On the other hand, by law, non-exempt employees must be paid overtime if they work more than 40 hours per week. That’s why many businesses try so hard to keep non-exempt workers to only 40 hours per workweek.
Although most employer’s treat non-exempt and exempt workers roughly the same, non-exempt workers generally receive more protection under federal law than exempt employees. Even so, there are parts of federal legislation that apply to all workers — non-exempt and exempt alike. They include the rights to:
- Equal employment opportunities
- A safe and healthy work environment
- The provisions covered in the Family and Medical Leave Act
- The protection of federal child labor laws
The importance of proper classification
Complying with federal labor regulations is important for all companies, but especially for small businesses. One of the most violated labor regulations among new businesses is the classification of employees as exempt or non-exempt.
Inaccurately identifying employees as exempt, and therefore not paying them overtime, could have far-reaching consequences for your organization at a later date. For example, a hospital in Dallas had to pay back nearly half a million dollars in back wages to 459 employees.
Employers with non-exempt employees are also responsible for fully understanding what hours count and what hours require overtime calculations. FLSA requires employees to be paid for all hours worked. The understood definition of hours worked is “any time the employee is engaged in an activity expressly for the benefit of their employer or required to be on the employer’s premises.”
Differences in tax liability
Aside from the various tax brackets your employees fall into based on income level, there are no differences in how exempt or non-exempt employees are taxed. All pay is considered “earned income” and taxed based on tax bracket. In other words, income is income, and it doesn’t matter if it’s earned by the hour or from an employee’s salary.
Is exempt or non-exempt better?
It depends. Some workers like the flexibility and latitude that comes with being paid a salary. Others prefer to be paid for every hour they work. Non-exempt employee’s time tends to be more closely watched, with breaks only allowed at certain times during the day. On the other hand, exempt workers will likely have more freedom during the day, as long as they get the job done.
For example, salaried employees typically have more flexibility to schedule doctors appointments and attend their child’s recital during regular work hours, then an hourly employee may have. They often are given the options of healthcare benefits, a 401K, and a retirement plan. Of course, all employees can open an IRA to save for retirement, but if the employer matches the investment from each paycheck, hourly employees miss out on literally free money.
Exempt workers are generally paid more than non-exempt workers. But if coming in early and staying late is required to complete their work, exempt employees are expected to do just that. Whereas, non-exempt employees most often work only a set number of hours.
In other words, there is no situation that is “better” for all your employees or for all employers. What works best for you will depend on your business and personal preferences when it comes to tracking your employees time.
Taking care of business
Sometimes, just trying to run the day-to-day operations of your small business can take all of your energy. With everything else on your plate, worrying about correctly classifying your employees shouldn’t be one of them.
That’s why you need to keep the basics in mind.
- An exempt employee is not eligible for overtime. Non-exempt employees are.
- Exempt employees are paid a salary of at least $455 per week or $26,666 per year.
- Non-exempt employees are paid an hourly wage plus one-and-a-half times that rate for overtime.
And, if you’re not sure how to classify an employee or have questions, you can always take a look at the wages, pay, and benefits page from the Department of Labor. It’s pretty explicit and covers all the details about night and weekend work, vacation time, sick pay, breaks for meals, etc.
The consequences of misclassification
Making sense of the differences between exempt and non-exempt can be tricky. But, you’ll need to understand the basics so you can classify your employees correctly to comply with FLSA and avoid consequences. Thousands of employees are misclassified every year, resulting in the U.S. Department of Labor collecting back wages that can cost companies millions in fines and penalties.
You don’t want to develop a reputation as an employer who unfairly compensates your workers. Timely and fair compensation, including overtime if required, is key to motivating employees, maintaining a satisfied workforce, and running a successful business.