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Most employers are generally familiar with the difference between exempt and nonexempt employees: exempt employees are paid a salary and do not receive overtime pay; nonexempt employees are paid by the hour and are entitled to overtime pay.

However, when classifying employees who perform office or nonmanual work, employers frequently disregard an important element of the legal test for whether an employee is exempt: what the employee actually does all day. The exemptions applicable to employees who perform office or nonmanual work require that the employee be paid on a salaried basis and primarily perform certain duties. Both criteria must be met; otherwise, the employee will not be exempt from minimum wage or overtime, with potentially costly results.

Generally, three exemptions are potentially available for employees who perform office or nonmanual work: executive, administrative and professional. The second exemption, for administrative employees, is frequently misunderstood and misapplied in an office context.

For example: A small business employs five employees in the office. Two of the office workers process customer orders, input accounts receivable/payable information, issue invoices and submit payroll. Two other employees handle filing, correspondence, customer service, process orders and returns, purchase supplies, and take turns answering the phones. These four office employees follow prescribed procedures when performing their jobs, and none of the four employees are authorized to give customer discounts, replace defective or damaged goods, or provide refunds without authorization from their supervisor. The fifth employee is responsible for managing the office, hiring and firing employees, handling issues related to human resources, and must authorize discounts and refunds, and approve any purchase over $100. All five office workers are salaried employees earning more than $1,900 per month. The office employees typically work 40 hours per week, except one week each month when they work 50 hours. The employer has classified all five office workers as exempt.

Under Oregon law, to be exempt as an executive, an employee must manage the business, direct the work of two or more employees, have authority to hire or fire other employees (or have their opinion on hiring, firing and promotion given particular weight), and customarily and regularly exercise discretionary powers. In the aforementioned example, only the supervising employee is likely to be exempt as an executive. The four others aren’t because, although they are paid a salary that meets the financial minimum for exempt employees ($455 per week), they do not perform the required duties for executive employees.

The definition of an administrative employee applicable in this scenario requires that the employee’s primary duty consist of the performance of office or nonmanual work directly related to management policies or general business operations of the employee’s employer or the employer’s customers. The employee also must customarily and regularly exercise discretion and independent judgment; regularly and directly assist a proprietor or an employee employed in a bona fide executive or administrative capacity; or must perform, under only general supervision, work along specialized or technical lines requiring special training, experience or knowledge; or execute, under only general supervision, special assignments and tasks.

In the example, the four office employees probably are not administrative employees because, although the office employees perform office or nonmanual work directly related to the general business operation of their employer and regularly and directly assist their supervisor, they do not customarily and regularly exercise discretion and independent judgment because they follow prescribed procedures when doing their jobs and need their supervisor’s authorization to depart from those procedures. (Independent judgment and discretion, according to state law, means “the selection of a course of action from a number of possible alternatives after consideration of each, made freely without direction or supervision with respect to matters of significance.”)

The result of misclassifying the four employees exposes the employer to potential liability for unpaid overtime. In the example, the four employees worked 50 hours per one week each month, resulting in 120 overtime hours annually. Hours worked over 40 are paid at one and one-half times the employee’s regular rate of pay – a simple calculation for an hourly employee. But for a salaried employee, the employer must first determine the employee’s regular hourly rate of pay – which is done by dividing the employee’s weekly salary by 40 hours. Here, if the employee makes $500 per week, their regular hourly rate of pay will be $12.50 and their overtime rate will be $18.75, resulting in $2,250 of unpaid overtime for one year. The total would be $9,000 for all four misclassified employees.

If the employees sue for unpaid overtime and win, the employer’s potential liability for unpaid overtime doubles because, by law, the employer is liable for twice the amount of the unpaid overtime (plus the employee’s attorneys’ fees and court costs). That is a potentially devastating financial burden.

To avoid liability for misclassifying employees, employers should: 1, periodically review the exempt and nonexempt status of employees, and consider the job descriptions for each exempt position; 2, consider requiring salaried employees to maintain time records and review those records on a regular basis; 3, maintain a written overtime policy that includes a requirement that all overtime be approved in advance; and 4, remember not to retaliate against an employee who complains about misclassification or seeks clarification of exempt status.

Elizabeth A. Semler is a member of Sussman Shank LLP’s Litigation and Employment Law Groups. Contact her at 503-227-1111 or [email protected].