A Sign of the Times- Cutting Payroll Costs

September 2009

By Jill Fisher, Esquire
Co-Chair Employment Law Practice Group

 

     Very few companies are immune from the current economic crisis.  Many employers are looking for ways to temporarily cut costs without having to resort to layoffs or terminations.  What are some cash-strapped employers doing to cut payroll costs?

Reducing Pay Without Reducing Hours

     Some companies simply are reducing the rate of compensation of at-will employees (employees who do not have an employment contract or are not subject to a collective bargaining agreement).  Under the Fair Labor Standards Act (“FLSA”), reducing a non-exempt employee’s regular hourly rate of pay from $15 to $12, for example, should not pose any legal problems, assuming there is no contractual obligation prohibiting a unilateral reduction in the rate of pay and the hourly rate does not fall below the applicable minimum wage.

     As a reminder, non-exempt employees typically are paid on an hourly basis and perform clerical or repetitive tasks. Non-exempt employees are entitled to overtime pay for any hours worked in excess of 40 hours in any week. Exempt employees are paid on a salary basis (the same fixed amount each pay period no matter how many hours worked each week) and perform administrative, executive, or professional work of a specialized nature or at a high level.  Other exemptions may include certain computer professionals and outside salespeople. Exempt employees are not entitled to overtime pay for hour worked per week in excess of 40 hours.

     Reducing the salary of an at-will exempt employee is more complicated than a non-exempt employee.  As a general rule, under the FLSA, an employer can reduce the salary of an at-will exempt employee (for example, from $65,000 per year to $50,000 per year), so long as the reduced salary is consistent from paycheck to paycheck, without making any deductions for the quantity or quality of work performed. Keep in mind that the weekly amount is not permitted to fall below $455 per week.  The important factor to remember is that, notwithstanding the reduction in salary, the employee continues to be treated as an exempt employee.  (Read more below on the risks of reducing an exempt employee’s workweek.)

Furloughs

     Other companies are turning to furloughs.  A furlough is mandatory (or voluntary) leave without pay.  For example, an employer may require (or ask) employees to take one day off a week without pay for a specified number of weeks.  Or, for non-exempt employees, the number of hours the employee works each day may be reduced.  In either case, non-exempt employees would be paid only for the hours worked during the week.

     For exempt employees, a furlough of one day a week with a matching reduction in salary is permissible under the FLSA, so long as the reduction is for a predetermined, fixed schedule over an extended period of time, or the reduction is permanent.  So, in the above example, exempt employees that are required to take one day off each week without pay for an extended period of time would be paid 4/5 of their current weekly salary.

     Another way to furlough employees is to require (or ask) employees to  take one whole week off without pay.  Neither exempt nor non-exempt employees would have to be paid for the week off.

What the DOL Says About Reducing An Exempt Employee’s Workweek

     The Department of Labor (DOL) has issued several opinion letters that serve as guidance for employers.  First, the DOL opined that an employer may require an exempt employee to take paid vacation time or debit his or her leave bank during a plant shutdown of less than a week without jeopardizing the employee’s exempt status.  (If the employee has no accrued paid time off, or a negative balance in his or her leave bank, the employee must still receive his or her guaranteed salary.)

     Next, the DOL ruled that a reduction in the salary of an exempt employee corresponding to a reduction in hours in the normal scheduled work week is permissible so long as it is a bona fide reduction not designed to circumvent the salary basis requirement.  (That’s the 4/5 example given above.)  In contrast, deductions from an employee’s fixed salary due to day-to-day (short-term) business or operating needs does not comport with the salary basis requirement.

     Last, the DOL opined that an employer who requires a salaried exempt employee to stay home from time-to-time due to insufficient work (a furlough) may deduct the non-working time from the employee’s accrued paid time-off bank without jeopardizing his or her exempt status so long as the employee is receiving his or her regular salary.  However, again, even if the employee has no accrued paid time off, the employee must still receive his or her guaranteed salary, so long as the employee performed any work during the work week.  (On the other hand, if the employee is furloughed for one or more entire weeks, then the salary basis test does not require that the employee be paid any salary at all during those weeks.)

The Effect of a Pay Reduction on Unemployment Compensation

     Reducing the compensation of employees (exempt or non-exempt) because of financial constraints may give employees a “necessitous and compelling” cause to voluntarily quit their job without waiving their eligibility to collect unemployment compensation.  Under Pennsylvania law, a “substantial” reduction in pay may provide a basis for being awarded benefits.  There is no bright line test as to what constitutes “substantial,” but in one case, a 12% reduction in pay was held to be not substantial.  In another case, a 50% reduction in pay clearly was substantial.  Each case is decided on its own specific facts.

     Employees who experience a loss of earnings due to lack of work, but who do not voluntarily quit their job may (under Pennsylvania law) receive partial unemployment compensation benefits.

A Cautionary Tale

     There are some cautions for employers to heed.  One, there are certain health insurance plans, or PTO policies in handbooks, that might require an employee to work 35 to 40 hours per week to be eligible to receive benefits.  So, a reduction to 32 hours per week may result in an unintended loss of benefits.  Therefore, employers should carefully review their plans and policies before instituting a reduction in hours and, if possible, change the policy to allow for a continuation of benefits.

     Another caution is for employers to avoid any appearance of discrimination when deciding which employees will be affected by a reduction in pay.  Before any reductions take effect, employers should carefully review production numbers, work schedules, and other applicable business criteria and then fully document the decision-making process.  Where possible, categories of employees should be chosen (by job functions, for example, all porters), not individual employees.

     No matter what method an employer utilizes to cut payroll costs, the employer should be sensitive to the plight (and feelings) of the employees whose pay is being decreased and truthful (yet hopeful) about the financial situation of the company.  Above all, the decisions employers make should appear to be reasonable and fair.

     *NOTE: This article is not intended to be nor should it be construed to be legal advice to any individual or about any particular compensation method or any particular state law.  Employers intending to reduce the pay or workweek of employees should seek the guidance of an employment lawyer.