There are different types of employees your business may have, including those who are exempt and nonexempt. Knowing what these categories mean is especially important when it comes to reporting income and withholding taxes. As a small business owner, these payroll considerations can be directly related to compliance with local, state, and federal regulations.
Let’s unpack what it means to have exempt versus nonexempt employees and what you need to know about guidelines, rights, and benefits.
Exempt and nonexempt employees differ in terms of the duties they perform and who is (or isn’t) eligible for overtime pay. These distinctions are determined by a federal law called the Fair Labor Standards Act (FLSA), and business owners are legally required to comply with it as well as local and state laws.
Exempt employees are those who have an exemption from receiving overtime pay. This exempt status is granted because they are most often salaried employees who receive an annual salary rather than being paid an hourly rate.
Exempt employees are also generally full time and are expected to work the number of hours necessary to complete their duties and tasks, regardless of whether this means working 30 hours or 55 hours a week. Their exemption from overtime pay makes payroll calculations unnecessary for employers to make. However, for an employee to be considered exempt, their job duties must satisfy certain FLSA requirements, such as those listed below.
Nonexempt employees are paid an hourly wage and are eligible to receive overtime pay. Hourly employees also must be paid at least the federal minimum wage for all regular hours worked. Their pay for overtime, any hours worked beyond the amount in a standard workweek, is calculated at one and a half times their normal hourly rate. While state regulations vary in defining just how many hours there are in a regular workweek, federal regulations for overtime are based on a standard of 40 hours.
Some states have also expanded their overtime pay guidelines, so be sure to check with the United States Department of Labor for your location regarding not only overtime but also employee rights, benefits, and tax liabilities. While the FLSA doesn’t distinguish between part-time and full-time employees, other regulations and requirements might, so you should check for this, as well.
While the main difference between exempt and nonexempt employees may, at first glance, appear to be based on how each is compensated for work, receiving hourly pay or a salary, the major distinction is based on the duties each type of employee performs.
Administrative and managerial duties are some of those considered to be exempt. However, whether an employee is called an administrator or manager isn’t as important as their actual duties. For that matter, an employee performing exempt job duties may still be paid at an hourly rate.
The FLSA has three basic requirements, or tests, to categorize an employee as exempt:
These positions typically include administrative employees, some sales employees, computer employees, and others. It’s important to note that there may be fine distinctions between types of jobs — such as indoor sales versus outdoor sales — that the FLSA makes when determining which jobs are and aren’t exempt. When in doubt, consult the U.S. Department of Labor’s FLSA page for clarification.
Overtime is paid only to nonexempt employees working more than the established hours of a normal workweek. These nonexempt employees are covered by the Fair Labor Standards Act, which regulates overtime eligibility and sets the minimum wage and establishes standards related to child labor laws. FLSA regulations pertain to both part-time and full-time employees.
The FLSA does not cover exempt-status employees, so you’re not responsible for tracking overtime hours or offering overtime compensation. Their salaried pay is assumed to cover a general number of extra hours worked as part of their job throughout the year.
Nonexempt employees can expect to be paid at least the federal minimum wage during a regular workweek, receive the benefit of overtime hours at a rate of one and a half times their normal pay, and have their hours properly tracked and recorded.
Employers have a little more leeway with exempt employees regarding how many hours they can legally ask them to work, but they still face compensation requirements. Exempt employees must receive a minimum of $684 per week. They also receive the benefit of being paid this set amount of money regardless of how many hours they do or don’t work.
When it comes to filing a tax return, exempt and nonexempt employees are taxed the same by the IRS. Earned income is calculated the same, and their returns only differ in terms of the income tax bracket each employee fits into, something that doesn’t involve their status as exempt or nonexempt.
As an employer, you’ll still be responsible for local, state, and federal tax withholdings for all of your employees.
Both exempt and nonexempt employees can collect unemployment benefits, although these benefits are likely to vary by area or state. To ensure you comply with local, state, and federal regulations, check the U.S. Department of Labor requirements for your area.
For small business owners, juggling exempt and nonexempt employees might seem complicated. Understanding what job duties qualify an employee as exempt and what payroll requirements govern compensating different types of employees takes the headache out of doing your payroll.
ZenBusiness is here to make your business’s day-to-day operations even easier, from payroll to staffing and beyond. Our business experts can help you tackle any questions you might have as a small business owner and provide resources to take your business even further.
Temporary closures due to the weather, the COVID-19 pandemic, or any other reason affect how you pay your exempt and nonexempt employees in different ways. Because nonexempt employees are generally paid on an hourly basis, you don’t pay them if they don’t work. If they do work, you pay them only for the hours worked.
Because exempt employees receive a salary regardless of how many or how few hours they work, you’ll be responsible for paying them their full salary for any workweek in which they worked, even if it was only for a few hours.
Because classifying an employee as exempt or nonexempt affects how they’re paid — which affects how that pay is taxed — misclassifying an employee means you can face several fines and penalties. For example, if you classified an employee as exempt and failed to compensate them for overtime, you’ll be responsible for paying them the money they earned.
There are pros and cons to each type of employee. Nonexempt employees require calculating their pay by carefully tracking hours worked and adhering to FLSA regulations, as well as local and state requirements. But you aren’t responsible for paying nonexempt workers anything beyond the time they’ve already put in. During slow periods, this could save your business a bit of money.
Exempt workers will still need to be paid their full weekly salary even if they’ve only worked a few hours that week. While this amount doesn’t vary and is easy to account for in your budget, the fact remains that you’ll be responsible for paying that salary regardless of how much money your business is making. This might prove to be a challenge during slow periods.
Deciding which positions to create and fill will involve both budgetary and management considerations. Do you want a team of hourly paid employees you directly supervise or are you looking to foster a more independent work environment? Deciding to create exempt or nonexempt positions should be based on your needs as a business owner.