How the Overtime Rule Affects Employee Benefit Plans

Employers complying with the Department of Labor's final rule raising the salary threshold for time-and-a-half overtime pay to $35,568, up from $23,660, should consider the effect the new requirements may have on their employee benefit plans.

Some employers have different benefit tiers for salaried/exempt and hourly/nonexempt workers, or use exempt and nonexempt status to determine benefit eligibility and contribution levels, noted Kathryn Wheeler, an attorney with law firm Jackson Lewis P.C.'s employee benefits practice group in Overland Park, Kan. That could present challenges as some employees who were exempt from overtime pay are reclassified as nonexempt, while others receive pay hikes to keep their exempt status.

What happens, for instance, when a currently exempt employee, participating in benefit plans limited to salaried workers, makes $475 a week in 2019? Starting in January, that employee, still making $475 a week, becomes a nonexempt employee and is no longer eligible for the same benefit plans, Wheeler explained.

For employer-sponsored retirement plans, "the effects of employees shifting from one plan to another effective Jan. 1, 2020, could create issues with nondiscrimination testing, top-heavy results or a reduction in certain benefits going forward, which may require advance notice to the affected participants," she advised. Annual nondiscrimination testing, for instance, is meant to ensure that plans do not discriminate in favor of highly compensated employees. A plan is top heavy when the total value of the plan accounts of key employees is more than 60 percent of the total value of the plan assets.

Retirement Plan Issues

Employers will likely have to make larger retirement plan contributions if their plan uses a definition of compensation that includes overtime pay, benefits specialists advised. Alternatively, if the employer's plan excludes overtime for calculating contributions, employers will have to pay closer attention to nondiscrimination testing results.

Consultants at HR advisory firm Mercer noted, "If retirement plan sponsors pay more overtime to more employees, both defined-benefit and defined-contribution plans that recognize overtime in their definition of earnings may see increased costs." Katharine Marshall, Margaret Berger and Brian Kearney, members of Mercer's law and policy group, gave the following examples of the possible impact of the new law on 401(k) and other defined-contribution plans.

• Matching contributions. For plans that recognize overtime pay when calculating employer contributions, "a 10 percent increase in earnings will generally produce a 10 percent increase in elective deferrals and matching and other employer contributions," the consultants pointed out, although "the exact cost impact will depend on the employee's deferral rate and the plan's contribution formula."
  

• Nondiscrimination testing. The accrual rates and deferral/contribution percentages of plan participants who are not highly compensated may fall if the plan excludes overtime from the pay used to determine benefits but includes overtime in the pay used for nondiscrimination testing. "Since highly compensated employees' accrual rates and deferral/contribution percentages won't be affected," the consultants noted, "the overall testing results may suffer," causing more plans to fail the test.
  

• Pension plans. For defined-benefit pensions, "the cost increase will depend on the underlying plan formula and the plan’s funded status. A 10 percent increase in affected employees’ earnings won’t necessarily lead to a 10 percent increase in pension costs for those employees," Marshall, Berger and Kearney noted. "For well-funded [defined-benefit] plans, the Internal Revenue Code’s funding requirements may mean the immediate cost impact might even be zero."
  

[SHRM members-only toolkit: Designing and Administering Defined Contribution Retirement Plans]

Health Plans and Other Benefits

As some currently exempt employees are reclassified as nonexempt, "employers should check to see if eligibility for any health or fringe benefits (such as adoption or education assistance, employee discount programs, or group term life insurance) is conditioned on an employee's exempt or nonexempt status," Marshall, Berger and Kearney wrote. "A change in the population of eligible employees for any particular benefit could affect its cost and effectiveness."

Visit SHRM's resource page on the FLSA Overtime Rule.