On May 20, 2020, the U.S. Department of Labor (DOL) published a final rule explaining that bonuses and other incentive payments—paid in addition to an employee’s weekly salary—are compatible with the fluctuating workweek (FWW) method of calculating overtime under the Fair Labor Standards Act (FLSA). The final rule went into effect on August 7, 2020.

On August 31, 2020, the DOL issued an opinion letter confirming that an employee’s work hours do not have to fluctuate above and below 40 hours per workweek for an employer to use the FWW method of calculating overtime pay. The opinion letter also cautioned that employers who use the FWW method generally may not “deduct from an employee’s salary for absences occasioned by the employee.” Both developments are discussed below, following the FWW refresher.

What is the fluctuating workweek method?

The FLSA requires employers to pay nonexempt employees at least one-and-one-half times their regular rate of pay for all hours worked over 40 hours in a workweek. Many employers simply pay nonexempt employees a pre-determined hourly rate, and overtime at time and one-half (150 percent) that hourly rate for when the employee works more than 40 hours in a workweek. The fluctuating workweek method permits an employer to pay non-exempt employees at one-half (50 percent) their regular rate of pay for overtime hours worked, as opposed to the traditional 150 percent for such hours. To use the FWW method (1) the employee’s schedule must vary from week to week; (2) the employee must be paid a regular salary intended to compensate the employee for all hours worked; and (3) the employee must agree to the arrangement in advance.

How does the FWW method work?

Properly calculating regular rate is one of the key items to ensuring compliant use of an FWW system. The regular rate is typically calculated by dividing the compensation paid for a workweek by the total hours worked in the workweek for which the compensation was paid. If a nonexempt employee earns a salary, commission, bonus or other incentive compensation, the regular rate is determined by dividing the total compensation paid for a workweek by the total hours worked in the workweek for which the compensation was paid. Correctly calculating overtime compensation depends on properly determining the “regular rate” of pay for the workweek.

If the nonexempt employee’s weekly or weekly-equivalent salary is intended to provide straight-time pay for working only 40 hours, the regular rate is calculated by dividing that salary by 40 hours. Because the employee’s salary is not intended to compensate the employee for working more than 40 hours, the employee must receive an additional 1.5 times (150 percent) the regular rate of pay for all overtime worked that week.

Under the FWW method, however, the employee’s weekly salary represents straight-time pay for all hours worked, including overtime. Because the weekly salary is intended to compensate the employee for all hours worked in the workweek, the salary itself is the “one” of the “one and one-half” rate required by the FLSA for overtime hours. The employee has already received his or her straight-time pay in the form of the salary for all hours worked. Thus, the employer need only pay the employee one-half (50 percent) of the regular rate of pay that week for any overtime hours worked.

The “regular rate” will, of course, change from week to week depending on how many hours the employee actually worked. When using the FWW method, the employee’s regular rate will generally decrease as the hours worked increase, and vice versa. In theory, this calculation method discourages inefficiency: the more hours the employee works, the lower the regular hourly rate.

The DOL’s new final rule for the FWW method

Effective August 7, 2020, the new final Fluctuating Workweek Rule clarifies that employers can pay bonuses or other incentive-based pay (such as commissions or hazard pay) in addition to the employee’s fixed salary to determine the total straight-time pay for the week. Indeed, the rule explains that such payments must be included when calculating the regular rate unless they are excludable pursuant to Section 207(e)(1) to (8) of the FLSA.

Under the new rule, when an employee receives non-excludable incentive pay (e.g., bonus, commission, hazard pay, etc.), it is added to the weekly salary to determine the total straight-time pay for the week. The employee then receives an additional 0.5 times (or additional “half time”) of the straight-time rate for all overtime worked that workweek. The rule includes examples to illustrate these principles when an employer pays an employee, in addition to a fixed salary (1) a nightshift differential; and (2) a productivity bonus.

The DOL’s recent opinion letter regarding the FWW method

The DOL also recently issued an opinion letter that provides further guidance regarding the FWW method. In its August 31, 2020 opinion letter, the DOL confirms that an employee’s hours do not need to fluctuate above and below 40 hours per week for the employee to qualify for the FWW method of calculating overtime. Thus, the DOL explains, “assuming all of the other conditions for using the fluctuating workweek method are satisfied, an employee may qualify for the fluctuating workweek method [even] if their hours fluctuate only above 40 hours per week.”  Employers can therefore utilize the FWW method even if the employee always works over 40 hours a week.

But the DOL’s opinion letter also cautions that employers who use “the fluctuating workweek method may not deduct from an employee’s salary for absences occasioned by the employee.” The salary paid to the nonexempt employee under the FWW method cannot change based on the number of hours worked (even if the employee works fewer than 40 hours).

Importantly, the salary-deduction rules for exempt “white collar” employees under the FLSA do not apply when utilizing the FWW method. The DOL therefore takes the position that an employer “may not deduct from an employee’s salary when the employee has exhausted a sick leave bank or not yet earned sufficient sick leave to cover an absence due to illness.”

The opinion letter references an exception to this rule for willful absences or tardiness as long as “the deductions do not cut into the [required] minimum wages or overtime pay.” But employers should be mindful that frequent or routine deductions of this sort would be closely scrutinized by the DOL or a court, and may invalidate the FWW method.

What is the takeaway?

The FWW method for calculating overtime remains a viable option for nonexempt employees who are paid a guaranteed weekly salary if their hours fluctuate from week to week. Employers may assert reliance on the August 31, 2020 opinion letter as the basis for a “good faith” defense.

But the FWW method gets tricky when an employee works only partial weeks. If using the FWW method, employers can deduct for absences during part of a workweek from the employees’ paid-time-off allotments (such as vacation or sick-leave banks). But employees must still receive their full salaries even if they have no more paid leave to cover those absences. Employers who use the FWW method should contact experienced legal counsel before making deductions for willful absences or tardiness, or if an employee is scheduled to take intermittent or reduced-schedule FMLA leave. Also keep in mind the laws in some states (e.g., California and Pennsylvania) do not allow employers to use the FWW method to satisfy the state’s overtime requirements.

Please contact your Reed Smith attorney with any questions about the FWW method of calculating overtime, or if you want to discuss whether the FWW method makes sense for your business.