Payroll Problems When Paying Bonuses To Hourly Employees


by Aaron Clark

aclark@mcgrathnorth.com
(402) 341-3040

When employers pay bonuses to hourly employees, they often overlook payroll issues relating to the calculation of overtime. For example, employers may pay nondiscretionary bonuses to hourly employees based on production, quality of work, attendance or longevity. In many cases, the employer simply pays the bonus without considering how this could impact the employee from a payroll standpoint with respect to overtime.

Non-exempt employees working more than 40 hours a week, must be paid 1.5 times their “regular rate” for all overtime hours under the Fair Labor Standards Act (FLSA). When nondiscretionary bonuses and other payments are made to an hourly employee, this can have an impact on the calculation of overtime. Under the FLSA, the “regular rate” used to calculate overtime must include “all remuneration for employment.” Failing to include certain payments or bonuses when calculating overtime may violate the FLSA and give rise to overtime liability.

Some bonuses do not have to be included when calculating overtime. For example, discretionary bonuses do not have to be included. Generally, a bonus is discretionary if the employer has the sole discretion to determine whether the payment will be made and the amount of the payment. Such payments are not made pursuant to any promise or contract. Nondiscretionary bonuses, on the other hand, are generally promised and expected to be paid if the underlying conditions are met (e.g., the employee meets the criteria to earn the bonus based on production, work quality, attendance or longevity).

The FLSA requires that nondiscretionary bonuses must be included in the regular rate for purposes of determining overtime. There are a variety of ways in which the bonus can be allocated to comply with the FLSA. Here is one example that may help clarify the issue:

Example: Suppose a non-exempt employee earns $10 an hour and works 50 hours during the workweek. The employee also receives a $20 production bonus from the Company. Many employers overlook the overtime issue and simply pay the employee as follows:

$500 for the employee’s 50-hour workweek ($10 an hour x 50 hours)
$50 for overtime pay ($10.00 an hour x .5 = $5.00 x 10 hours)
$20 for the production bonus
$570 total weekly compensation

Under the FLSA, the production bonus must be considered in determining the “regular rate” for of calculating overtime. To calculate the overtime during the workweek the production bonus is earned, the employer must first calculate the new “regular rate” for the workweek, given the impact of the bonus. To do so, the employer would add the production bonus to the total regular pay received by the employee for the week and divide that amount by the total number of hours worked. The resulting pay rate (known as the new regular rate) is then halved and multiplied by the number of overtime hours worked to calculate the overtime due.

Using the above example, the employee’s total pay with the production bonus would be $520 ($10 an hour x 50 hours + $20 production bonus). The employee’s new hourly rate for overtime purposes would be $10.40 ($520 ÷ 50 hours = $10.40). Therefore, the employee’s compensation under the FLSA would be calculated as follows:

$500 for working a 50 hour work week ($10 x 50 hours)
$52 for overtime pay ($10.40 an hour x .5 = $5.20 x 10 hours). The new hourly rate ($10.40) is halved and multiplied by the number of overtime hours worked to calculate the overtime compensation due.
$20 for the production bonus
$572 total weekly compensation

Therefore, the employee receives $2 more by including the production bonus as part of the new regular rate. Although this seems like an insignificant amount, it can really add up when applied to multiple employees over an extended period of time.

The Department of Labor (DOL) has been cracking down on this issue. If the employer is ever audited or a claim is pursued by an employee, the DOL could require the employer to go back and pay all employees over the previous 2 years (or 3 years if determined to be willful) plus interest and possible penalties. If you are paying nondiscretionary bonuses to hourly employees, it is always a good idea to check with legal counsel to ensure that you are calculating overtime consistent with the FLSA regulations.

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