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First circuit upholds fluctuating workweek method for calculating overtime pay: Rules performance-based commissions do not violate FWW requirements

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Under the Fair Labor Standards Act (FLSA), a non-exempt employee generally must be paid time and a half (1.5x) his or her regular rate of pay for all time worked in excess of 40 hours in a workweek.  The law nevertheless provides some exceptions. One such exception is the “fluctuating workweek method” for calculating overtime (FWW method). Using the FWW method, an employer need only pay an employee half (0.5x) his or her regular rate of pay for every hour over 40. This method makes pay more predictable and less variable to an employee where his or her hours fluctuate week-to-week.

Before making a switch to the FWW method, however, employers should know that there are a number of requirements that first must be met:

  1. The employee’s hours must fluctuate from week-to-week;
  2. The employee must receive a fixed salary that does not vary with the number of hours worked during the week;
  3. The fixed amount must cover the minimum wage; and
  4. There must be a clear understanding of the arrangement between the employer and the employee. 

Notably, the second requirement—a fixed salary that does not vary with work hours—has caused considerable controversy and litigation. What is a “fixed salary?” For instance, bonuses and commissions that are based on an employee’s work hours (i.e., hours-based) have been held to violate the FWW method. Examples of such “hours” based payments can include shift premiums and other incentives for employees to work longer hours. The Department of Labor considers such hours-based payments to be inconsistent with the FWW method’s requirements. 

Additionally, a few employees have challenged performance-based bonuses and commissions, arguing that (like hours-based bonuses) performance-based incentives invalidate reliance on the FWW method. These challenges have created some uncertainty for employers who seek to provide flexible work schedules and incentives to their employees. 

Thankfully, a new decision from United States Court of Appeals for the First Circuit may provide additional support for employers paying performance-based incentives while using the FWW method for calculating overtime. The decision in Lalli v. General Nutrition Centers, Inc., No. 15-1199 (1st Cir. Feb. 12, 2016), concerned claims brought under the FLSA and a state wage and hour law by a former GNC store manager. GNC paid the store manager a guaranteed salary, non-discretionary sales commissions, and half time overtime premiums for each week. Overtime was calculated by adding the store manager’s weekly salary and sales commissions and dividing the amount by total weekly work hours to arrive at the regular rate of pay. GNC then paid the store manager half the amount of the calculated regular rate for each overtime hour worked.  Critically, GNC paid the store manager commissions based on his eligible weekly sales. But because these commissions varied week-to-week, the store manager alleged he did not receive a weekly “fixed” amount of pay in contravention of the FWW method. Thus, the store manager claimed GNC owed him time and a half for his overtime hours, instead of the half time he was paid.

In a victory for employers, the court in Lalli rejected the store manager’s claims and upheld GNC’s use of the FWW method—despite the sales commissions payments. The court ruled that “the payment of a performance-based commission does not foreclose application of” the FWW method with respect to the “fixed salary” requirement. In reaching this conclusion, the court distinguished performance-based bonuses and commissions from the hours-based shift differentials. Unlike shift differentials, the court reasoned that sales commissions had no direct relation to the type or number of hours worked by the store manager. Further, the court rejected the store manager’s argument that the FWW method requires payment of a “fixed total amount of compensation” for each workweek. The court held that the plain language of the FLSA’s FWW method regulation (29 C.F.R. § 778.114) requires a “fixed salary” and not a “fixed amount” of total compensation. Reading the term “salary” to include commissions would “make little sense” where the FLSA regulations differentiate elsewhere between “salary” and other types of remuneration, such as commissions.

The decision in Lalli is especially important because it is the first federal appellate court to uphold performance-based payments under the FWW method for paying overtime. The First Circuit may have set the tone for other circuit courts to similarly uphold performance-based payments while calculating overtime using the FWW method.  Employers may rest a little easier knowing that Lalli provides additional support for providing performance-based incentives to salaried non-exempt employees compensated under the FWW method for calculating overtime. As always, however, the devil is in the details and an experienced wage and hour attorney should be consulted before implementing a FWW method pay scheme. Furthermore, as Lalli is binding only in the First Circuit, employers in other jurisdictions should continue to pay careful attention to the developing case law regarding the FWW method.