The U.S. Department of Labor (DOL) announced a proposed rule on July 6, 2015, that would change who qualifies for overtime pay.
Today, only 8% of salaried workers qualify for overtime pay—those workers who earn less than $23,660. The proposed rule will extend overtime pay to salaried workers who earn less than about $50,440 next year. The proposed change is estimated to cover 4.6 million workers, more than the current regulations.
What does this mean for the retirement plans of employers that will be affected by this proposed rule?
While many employers use gross compensation or total pay for retirement plan purposes, some employers provide retirement benefits only on base pay, excluding additional pay such as overtime, bonuses, or premiums for shift differentials.
Generally, excluding overtime pay for retirement plan purposes is OK if the plan’s definition of compensation passes nondiscrimination testing.
Nondiscrimination testing on compensation is done by comparing the average includable compensation for highly compensated employees (HCEs) to the average includable compensation for non-highly compensated employees (NHCEs). If the HCE average percentage exceeds the NHCE average percentage by more than a de minimis amount, the plan will fail the test. A de minimis amount is generally thought to be no more than 3%, but there is no formal guidance so plan counsel should be involved.
2015 example: Plan excludes overtime pay and bonuses from plan compensation
|HCE Average Includable Compensation
|NHCE Average Includable Compensation
Because the HCE average inclusion percentage exceeds the NHCE average inclusion percentage by no more than 3%, the plan passes the test.
But what happens next year if many of the NHCE participants are suddenly eligible for overtime pay? The increase in excludable overtime pay will cause the NHCE inclusion ratio to drop, and the disparity between HCE and NHCE includable compensation will exceed 3%—and thus fail the test.
2016 example: Plan excludes overtime pay and bonuses from plan compensation
|HCE Includable Compensation
|NHCE Includable Compensation
Because the HCE average inclusion percentage exceeds the NHCE average inclusion percentage by more than 3%, the plan fails the test.
Failed testing is never good. More complex testing would have to be done, and the plan may have to take corrective action if the complex testing doesn’t pass.
Employers with salaried workers who would qualify for overtime under the proposed changes will want to check their retirement plan compensation definitions and keep an eye on what happens with the proposed overtime regulations.
Interested parties can submit comments on the proposed rule at www.regulations.gov (RIN: 1235-AA11) on or before September 4, 2015. The DOL is expected to make a final rule next year.