Uncontrollable Payroll Bleeding? Using Reductions in Hours, Mandatory Vacations, and Temporary Shutdowns as a Tourniquet

By Griffin S. Dunham

With the economy bruised and the P&Ls bloody, some businesses are turning to their workforce to repair their sinking ship. If done properly, reductions in hours, mandatory vacations, and temporary shutdowns can all be used to effectively reduce costs, yet keep the company's valuable people on the payroll. If not done properly, cutting back hours and wages can result in lawsuits about cutting back those hours and wages. This article attempts to show how any such decisions should work within the framework of the Fair Labor Standards Act (FLSA) and serve their intended purpose of helping the business weather the current economic storm.

The FLSA, codified at 29 U.S.C. § 201 et seq., is commonly known as the law governing minimum wage, "time and a half" overtime, and prohibiting certain employment of minors. The Act would undoubtedly embrace the moniker of "Protector of Rights and Wages," but can only do so to a limited extent. With certain exceptions, the FLSA applies to each of an employer's non-exempt "employees who in any workweek is engaged in commerce or in the production of goods for commerce, or is employed in an enterprise engaged in commerce or in the production of goods for commerce." 29 U.S.C. § 206(a). Employers that want to exempt an employee, thus making the employee outside the protection of the FLSA, must jump over two hurdles: First, the employer must properly designate employees into exempt categories, which mainly consist of three "white collar" classes: executive, administrative, and professional. Id. § 213(a)(1). Second, the employer must pay the designated non-exempt employees on a "salary basis," defined as follows:

An employee will be considered to be paid on a "salary basis" . . . if the employee regularly receives each pay period . . . a predetermined amount constituting all or part of the employee's compensation, which amount is not subject to reduction because of variations in the quality or quantity of the work performed

29 C.F.R. § 541.602(a).

When deciding to institute a reduction of manpower hours, treatment for non-exempt employees is straightforward. Depending upon the non-exempt employee's benefits package, as a general rule a reduction in hours legally allows for a corresponding reduction in wages. Accordingly, the treatment of exempt employees, which requires special considerations, is the focus of this article. As an initial matter, an employer first wants to keep exempt employees exempt to avoid losing that exempt status for the entire similarly situated class of employees. If the exemption is lost, claims could pour in from newly non-exempt (FLSA protected) employees for all overtime wages that the employees would have been received if classified as non-exempt during at least the previous two years. 29 U.S.C. § 216(b), 255(a) (recognizing three-year statute of limitations for employer's willful violation). Additionally, the newly non-exempt employees could then claim FLSA protection, and thus entitlement to overtime pay, going forward. The employees could take comfort knowing the FLSA also protected them against retaliation for filing the action against their employer. 29 U.S.C. § 215(a)(3).

So, the first step is to address what measures an employer must take to ensure exempt employees remain exempt. Any reduction in hours, ordering of mandatory vacation, or temporary shutdown is designed to cut down on payroll costs. The Department of Labor recently issued several opinions in response to employers inquiring about reducing salaries commensurate with mandatory reductions. The positions taken by the Wage & Hour Division make the following rules clear:

1. Reduction in Hours ≠ Reduction in Salary

During "periods of insufficient work" less than a week in duration, an employer might be tempted to direct an employee to stay home or work fewer hours. It would only make sense to then reduce that exempt employee's compensation accordingly, right? Wrong, according to the Department of Labor's Employment Standards Administration. See Wage and Hour Opinion Letter, FLSA2009-18, January 16, 2009. Citing Code of Federal Regulations § 541.602(a), the Department's position is that "an exempt employee must receive his or her full salary for any week in which the employee performs any work without regard to the number of days or hours worked. In no event can any deductions from an exempt employee's salary be made for full or partial day absences occasioned by lack of work[.]" Id. Since the employee would not be "paid on a fixed and guaranteed...salary basis without regard to the quantity of work performed[,]" reducing the salary would result in the employee becoming non-exempt under the FLSA.

However, the Department's opinion contained an exception for employers who reduce hours on a "fixed" basis for a "bona fide reduction in salary." Id. (approving a reduction in salary if an employer reduced salary when it went from 52 five-day workweeks to 47 five-day workweeks and 5 four-day workweeks). During "transitory" and "occasional unplanned" periods of low work demand, any salary reduction pursuant to a reduction in hours reflects a "design[] to circumvent the salary basis...and is, therefore, inconsistent with the guaranteed salary basis of payment required by the regulations." Id. An important factor to the Department is the permanence of a reduction in hours - the more reactionary, unplanned, and temporary a reduction in hours, the more likely a reduction in salary will be found to be designed to circumvent the salary basis.

2. Reduction in Hours = Reduction in Available Accrued Leave

Unlike reducing salaries, employers can freely and without hesitation reduce an exempt employee's hours and then equally reduce the employee's accrued leave amount.

Since employers are not required under the FLSA to provide any vacation time to employees, there is no prohibition on an employer giving vacation time and later requiring that such vacation time be taken on a specific day(s). Therefore, a private employer may direct exempt staff to take vacation or debit their leave bank account..., whether for a full or partial day's absence, provided the employees receive in payment an amount equal to their guaranteed salary.

See Wage and Hour Opinion Letter, FLSA2005-41, October 24, 2005; see also 29 C.F.R. § 541.600. Accordingly, "[i]f exempt employees receive their full predetermined salary, deductions from a leave bank, whether in full day increments or not, do not affect their exempt status." See 69 Fed. Reg. 22,122, 22,178 (Apr. 23, 2004); Wage and Hour Opinion Letter, February 18, 1999.

The next logical inquiry is often about the employer's options if an exempt employee has no available accrued leave. Regardless if the employee has a negative leave balance or insufficient benefits in the leave bank, the employer must pay the employee's full salary if the reduction in hours, "occasioned by the employer or by the operating requirements of the business[,]" is less than a week. C.F.R. § 541.602(a); See Wage and Hour Opinion Letters, May 27, 1999, February 18, 1999, May 23, 1996, and April 6, 1995.

3. Shutdowns > Week = Reduction in Salary

As previously stated, an exempt employee must receive the full salary for any week in which the employee performs any work, without regard to the number of days or hours worked. C.F.R. § 541.602. But see id. (containing exceptions to this rule, e.g., salary deductions permissible if based on sickness, disciplinary suspensions, penalties for safety rules, etc.). However, any shutdowns or furloughs lasting longer than a week entitle the employer to reduce the employee's salary in an amount equal to "the hourly or daily equivalent of the employee's full weekly salary or any other amount proportional to the amount actually missed by the employee. Id. § 541.602(c). Since any work whatsoever triggers full salary payment for the entire week, it is crucial for the employer to prohibit the employee from working, which such prohibition clearly conveyed to the employee.

Businesses in financial distress must be vigilant about not allowing a cost-savings move to actually cost the business more money. Following these rules is one part of the overall schematic to help keep the ailing ship afloat. However, it is equally important for employers to understand that there are other options that are not prohibited by the FLSA. These permissible ways an employer can reduce exempt payroll costs through salary deductions include the following measures:

(i)Shutdowns or furloughs lasting longer than a week
(ii) Creation of permanent, fixed, reduced-work employment schedules
(iii) Reductions of pay without adjusting employment schedules (a lawful avenue, absent contractual commitments, but one that is likely to create workforce dissention)
(iv) Deduct exempt employees' accrued leave for reduced hours worked

Regardless of the preferred avenue, employers should ensure their intended course of action also comports with all state laws, which can provide additional protections to employees. Because this area of the law is constantly developing and resolving these disputes hinges on the particular facts of a given case, employers should consult counsel before taking action. The consequences of poor planning in this area have serious and potentially long-lasting repercussions, so all options should be heavily weighed before a solution is implemented.