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New employee exempt status threshold rules affect retirement plans

10.05.16

Fair Labor Standards Act update

Dramatic changes to the Fair Labor Standards Act (FLSA) that take effect on December 1, 2016, could have implications for your retirement plan. The changes affect what forms of compensation you use to calculate employer contributions to your qualified retirement plan and determine highly compensated employee (HCE) status.

Exemption changes

Since 2004, the rules automatically deemed employees earning above $455 for a 40-hour week ($23,660 annualized) exempt from overtime pay requirements (time-and-a-half for weekly hours exceeding 40). Now, that threshold is jumping to $913 per week (annualized at $47,476).

In addition, the HCE definition for purposes of automatic exempt status is rising from $100,000 in annual income to $134,004. These amounts will be automatically adjusted for inflation at three-year intervals, beginning in 2020.

Bonus standards

A maximum of 10% of income for exempt status determination can come from commissions and nondiscretionary bonuses (those automatically paid if they meet certain job-related quotas). However, employers must pay these additional amounts at least on a quarterly basis. Thus, if you currently pay nondiscretionary bonuses to employees whose income is close to but under the income thresholds less frequently than quarterly, switching to a quarterly payout schedule could shift such employees into exempt status, and thus not entitled to overtime pay.

If you currently make annual contributions to employees’ retirement accounts based on a percentage of their pay (either in addition to or in lieu of matching contributions), you could see your costs going up. The impact will depend on how you respond to the higher minimum wage threshold.

For example, assume you make a 3% nonelective annual contribution and have several employees whose current salaries are $30,000. They’d no longer qualify as exempt. Let’s say that, with overtime included, they now earn an average of $40,000, and you will be paying an additional $300 in nonelective annual contributions per employee, not to mention an additional $10,000 in wages per employee.

Alternative responses

So what should you do? You can:

  • Try to limit those employees’ hours to 40 per week and pay overtime as needed, or
  • Raise those employees’ salaries to or above the new $47,467 threshold, avoiding the necessity of paying overtime.

If you’re not including overtime pay in the 3% nonelective contribution, the size of your contribution wouldn’t change in the first scenario, but would rise in the second. And if you include overtime pay in the 3% contribution calculation and decide simply to start paying overtime instead of raising wages, as noted, your 3% contributions will go up.

Also consider whether the net increase would be greater than what you could face if you increase base pay, even if it isn’t large. Finally, if you opt to not raise salaries, and you don’t include overtime pay in the 3% contribution calculation and nonexempt employees are receiving a lower proportion of total nonelective contributions throughout the year, the share going to exempt HCEs will rise, possibly triggering discrimination testing failures.

Now’s the time

Check with your benefits specialist to make sure your plan won’t be affected by the new FLSA rules. Remember that decisions about benefit formula design and forms of compensation should look beyond the dollars. Be sure to weigh employee perception and motivational factors.

BPM is one of the largest California-based accounting and consulting firms, ranking in the top 50 in the country. It has served the San Francisco Bay Area's emerging and mid-cap businesses, as well as high-net-worth individuals, since 1986. Our Employee Benefits team consists of professionals with extensive knowledge of ERISA guidelines and deep expertise performing employee benefit plan audits. We can help you craft a smooth-running plan that serves your employees while mitigating associated risk. For more information or for a free expert consultation, Jenise Gaskin at (925) 296-1016 or Mike Spence at (408) 961-6303 or visit us at www.bpmcpa.com/ebp.

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