Key Issues to Evaluate When Conducting an Internal Wage and Hour Audit

In our last blog post in this series on the “Anatomy of a DOL Audit,” we discussed tips for conducting an effective internal wage and hour audit. Now we consider some key issues to evaluate during that process.

1.  Misclassification of exempt employees

First, misclassification issues arise primarily out of an argument either that the supposedly exempt employee is not actually paid on a “salary basis” (a fundamental requisite for exempt status), or that his or her primary duties do not fall within any of the recognized exemptions. A critical part of a thorough audit is an evaluation of the job classifications and payroll practices to ensure the exempt employee truly is “exempt.” This should include review of written job descriptions and evaluation of what the employees actually do in the course of their work. A prudent employer should systematically track wage and hour claims filed in its industry and geographical area attacking the application of exemptions to particularly positions, and then scrutinize its own employees’ job responsibilities and similarly situated positions. In auditing whether employees perform exempt duties, some factors to consider are:

• Do job descriptions, self-evaluations, and similar documents accurately depict the primary duties of the position as exempt?
• Do annual performance evaluations reflect exempt work?
• Do employees sign their evaluations to acknowledge the job duties expected of them?
• Do supervisor and employee interviews indicate that the job duties actually performed meet the pertinent Fair Labor Standards Act (FLSA) requirements to be exempt?

 

2.  Failure to properly pay non-exempt employees for all hours worked

Second, the failure to properly pay non-exempt employees for all hours worked is another common claim in class actions. These claims are sometimes known as “working off the clock” claims, where the employees contend that the employer discouraged them from reporting all of the hours they worked on their time records. Other disputes arise regarding whether certain tasks are compensable working time. Examples of common mistakes employers make in determining hours worked are:

• Miscounting compensable time spent on business travel;
• Not including certain time employees spend “donning” and “doffing” required protective gear or clothing at the beginning or end of the work day;
• Not including all compensable activities during the “continuous workday” as defined by U.S. Department of Labor (DOL) regulations;
• Not including certain “on call” time as hours worked;
• Not counting and paying for training time that DOL regulations define as working time; and
• Assuming that the work employees do at home during off hours, with the tacit approval of their supervisors, is “on their own time.”

 

It is impossible to eliminate the risk that employees will contend that they were permitted or encouraged to work off the clock. However, there are certain steps that can be taken to reduce this risk, which should be explored in the course of an internal audit. These include clear company statements, in writing, that:

• Non-exempt employees will be paid for all hours worked.
• Non-exempt employees must record all hours worked.
• Non-exempt employees must receive pre-approval for overtime hours worked.
• Non-exempt employees should not perform any work during lunch breaks.
• Non-exempt employees are encouraged to report any pressure or encouragement to work off the clock with assurances against reprisal.

 

The employer should provide annual reminders that working “off-the-clock” is prohibited by company policy and obtain signed acknowledgments by employees that they have not worked off the clock. Include a signed acknowledgment during an exit interview or in termination paperwork that the employee has been paid for all hours worked during the course of his or her employment.

3.  Misclassification of workers as independent contractors

As noted in earlier posts, the DOL has embarked on an ambitious initiative to investigate misclassification of workers. The DOL budget for FY 2013 specifically allocates $14 million to be used to combat misclassification, including $10 million for grants to states to identify misclassification of employees as independent contractors and $3.8 million for enforcement by the Wage and Hour Division. Under the initiative, the DOL is committed to working closely with the Department of Treasury to conduct targeted wage and hour investigations in industries with the “most substantial” independent contractor abuses. The initiative also includes offering training for investigators on the detection of misclassified workers, and several financial incentives and rewards for states with the most success in targeting misclassification. Accordingly, any company that utilizes independent contractors should examine such classification closely.

How a worker is classified varies depending on the particular facts at issue, but to a large extent depends on the company’s degree of control over the individual worker. Factors to examine include the following:

• Type of instructions given (independent contractors generally control how, when and where the work is performed while employees generally must follow their employer’s instructions);
• Degree of instruction (independent contractors generally receive little instruction or supervision, while employees are often subject to more detailed instruction or guidance);
• Evaluation system (independent contractors are typically evaluated only by the end result of the work while employees may be evaluated on how the work is actually performed);
• Training (independent contractors do not generally receive training from the client company);
• Significant investment (independent contractors often make a significant investment in the tools and equipment they use to perform the work);
• Unreimbursed expenses (independent contractors are typically responsible for their own expenses and overhead);
• Opportunity for profit or loss (independent contractors run a greater risk of incurring a loss in connection with a particular engagement);
• Services available to others (independent contractors generally have the right to work for multiple clients at the same time);
• Method of payment (independent contractors are often paid a flat fee for an engagement, while an employee is generally guaranteed a regular wage for the period of time the employment relationship continues);
• Employee benefits (independent contractors are not typically entitled to receive retirement, health insurance, and other similar benefits an employer provides to its employees);
• Permanency of the relationship (employees are typically engaged for indefinite periods and can be discharged for any or no reason without notice, while independent contractors are typically engaged for specified periods or projects and cannot be discharged except under the terms of their contract); and
• Written contract (the provisions in the contract should include substantial indicia of independent contractor status and avoid any implication of employment status).

 

When conducting this phase of the audit, it is also important to review policies and procedures that may address independent contractors, contractor recruitment materials, and any contractor training materials.

4.  Calculating overtime pay.

Fourth, while overtime under the FLSA is typically calculated at one and one-half times the employee’s regular rate of pay, certain methods of compensation should be examined closely for compliance with pertinent DOL regulations.  These include:

• Employees paid on a commission basis, in whole or in part;
• Employees paid on a fluctuating work week basis;
• Employees compensated on a piece rate basis;
• Employees who receive any special rates; and
• Employees who are eligible for and receive bonuses—performance or otherwise.

 

Stay tuned for our next blog post when we will discuss how to report audit results.