How to classify exempt vs non-exempt employees

Why does exempt vs non-exempt classification matter?

The distinction between exempt and non-exempt employees determines whether a worker is entitled to overtime pay and minimum wage protections under the Fair Labor Standards Act (FLSA). Getting this classification wrong exposes employers to significant financial liability, including back pay, liquidated damages, and penalties.

According to the Department of Labor, employee misclassification is one of the most frequently investigated FLSA violations, with the WHD recovering over $274 million in back wages for workers in fiscal year 2024 alone.

What are the three tests for exempt status?

To classify an employee as exempt from overtime, the employee must satisfy all three of the following tests:

1. Salary Basis Test

The employee must be paid a predetermined, fixed salary that is not subject to reduction based on variations in the quality or quantity of work performed. Specifically:

• The salary must be paid for any week in which the employee performs any work, regardless of the number of days or hours worked
• Deductions from salary are only permitted in limited circumstances (full-day absences for personal reasons, full-day absences for sickness if a bona fide sick leave plan exists, disciplinary suspensions of one or more full days for workplace conduct rule infractions, FMLA leave, first or last week of employment)
• Improper deductions can destroy the exemption for the entire pay period and potentially for all employees in the same job classification

2. Salary Level Test

As of July 2024, the employee must earn at least $844 per week ($43,888 per year). This threshold was increased from $684 per week ($35,568 per year).

The salary level test uses a bright-line threshold. An employee earning $843.99 per week is non-exempt regardless of their duties.

Special rules:

• Highly compensated employees (HCE) earning $132,964 or more per year only need to meet a reduced duties test
• Computer employees can qualify based on an hourly rate of at least $27.63/hour instead of the salary test
• Outside sales employees have no salary requirement

3. Duties Test

The employee's primary duty (the principal, main, major, or most important duty) must fall within one of the following categories:

Executive Exemption:

• Primary duty is managing the enterprise or a recognised department/subdivision
• Customarily and regularly directs the work of at least 2 full-time employees (or equivalent)
• Has authority to hire or fire, or their recommendations on personnel matters are given particular weight

Administrative Exemption:

• Primary duty is performing office or non-manual work directly related to the management or general business operations of the employer or the employer's customers
• Exercises discretion and independent judgement with respect to matters of significance

This is the most frequently misapplied exemption. The key question is whether the employee's work involves running or servicing the business (exempt) versus producing the product or service the business sells (non-exempt).

Professional Exemption:

• Learned professional: Primary duty requires advanced knowledge in a field of science or learning, customarily acquired by a prolonged course of specialised intellectual instruction (e.g., doctors, lawyers, engineers, accountants, teachers)
• Creative professional: Primary duty requires invention, imagination, originality, or talent in a recognised field of artistic or creative endeavour

Computer Employee Exemption:

• Systems analyst, computer programmer, software engineer, or similarly skilled worker
• Primary duties include systems analysis, design, development, documentation, testing, or modification of computer systems or programs

Outside Sales Exemption:

• Primary duty is making sales or obtaining orders/contracts for services or use of facilities
• Customarily and regularly works away from the employer's place of business

How to conduct a classification analysis

1. Review actual duties, not job titles or descriptions. An employee with "Manager" in their title is not automatically exempt
2. Apply all three tests. Failing any one test means the employee is non-exempt
3. Document your analysis for each position, noting which exemption applies and why
4. Review periodically, especially when job duties change or salary thresholds are updated
5. When in doubt, classify as non-exempt. The financial risk of misclassifying an exempt employee as non-exempt (overpaying overtime) is far less than the reverse

What are the consequences of misclassification?

• Back pay: Up to 2 years of unpaid overtime (3 years for wilful violations)
• Liquidated damages: An additional amount equal to the back pay (effectively doubling the liability)
• Class/collective actions: One misclassified employee often means an entire job classification is misclassified, multiplying the exposure
• State law claims: Many states have their own wage and hour laws with additional penalties, longer statutes of limitations, or lower exemption thresholds

How Grove HR Helps

Grove HR includes an exemption classification wizard that guides HR through the salary and duties tests for each position. The system flags employees whose salaries fall below the current exemption threshold, tracks hours worked for non-exempt salaried employees, and maintains classification documentation in the employee's compliance file.