Must Employers Pay Premiums for Extra Hours Worked?

California Labor Code 2751 requires that all California employee commission compensation agreements must be in writing by January 1, 2013.   Whether a business already has written commission arrangements with its sales personnel, this impending deadline is incentive to ensure such arrangements are clearly stated and in compliance with applicable laws, including the rules for any sales commission-related exemptions from overtime compensation.

Except for workers who are “exempt” from the requirements, employers must pay employees at increased per-hour (“premium”) rates for “overtime.”  Federal rules define overtime as “after 40 hours worked” in a company’s seven day “workweek.” California also defines overtime as “after eight hours worked” in a company’s 24 hour “workday.”  See, Working Overtime in California, Basic Rules and Rates for Daily and Weekly Hours.

Certain sales personnel qualify for exemption from the federal and California overtime rules.  In such instances, an employer need only pay the agreed-upon commissions – or other arrangement of set salary/hourly pay and commissions – no matter how many hours the qualified sales person works in a given workday or workweek.

The rules for each of the two sales personnel exemptions (outside  sales and inside sales) are very specific and potentially complex, requiring management’s regular management attention to ensure each particular employee qualifies from week to week.  There are also key distinctions between the California and federal exemptions, requiring employers to carefully confirm that its exempt sales people comply with each set of rules.

Outside Salesperson Exemption: California exempts from overtime compensation “[a]ny person, 18 year of age or older, who customarily and regularly works more than half the working time away from the employer’s place of business selling tangible or intangible items or obtaining orders or contracts for products, services, or use of facilities.”  See, Glossary, Division of Labor Standards Enforcement (DLSE).

Federal law exempts from overtime compensation an individual whose “primary duty” is making sales or “obtaining orders or contracts for services or for the use of facilities for which a consideration will be paid by the client or customer” and who is “customarily and regularly engaged away from the employer’s place or places of business.”  See, U.S. Department of Labor, Wage and Hour Division Fact Sheet No. 17F.

To determine whether an employee qualifies for this exemption, federal law thus counts that person’s actual sales actions in the field as well as incidental activities (e.g., deliveries, collections, repairs, maintenance and/or in-office telephone calls or emails for appointments).  However, for a California employee to qualify for this state’s outside sales exemption, he or she must be engaged in actual sales activities outside of “the employer’s place of business” for over 50% of the time.  Any deliveries, collections, and various in-office activities, whether or not incidental to securing sales, cannot exceed 49% week-to-week under California’s rules.

Personnel who qualify as the outside salespersons are exempt from minimum wage and overtime pay.

Inside Salesperson Exemption: An “inside sales representative” sells products or services in a store, sales lot or while otherwise situated in the employer’s place of business (e.g., telephone solicitation and sales). In California, a commissioned inside sales representative covered either by Industrial Welfare Commission Wage Order 4 (professional, technical, clerical, mechanical and similar occupations) or Wage Order 7 (merchantile industry) is exempt from overtime compensation if:

• total compensation exceeds 1.5 times the minimum wage for each hour worked during the pay period; and
• at least 50% of total compensation comes from commissions.

California’s minimum wage is $8.00 per hour.  Since an inside salesperson’s compensation must exceed the $12.00 amount for every hour worked in a week, this exemption has the unique requirement of employee’s accurately tracking work hours each week to ensure he or she qualifies for the exemption.  Whether the sales commission structure is comprised of a base salary plus commissions, pure sales commissions, a draw provided against future commissions or some combination of these, the exemption requires that each weekly paycheck (or the per week proration of a bi-monthly paycheck) exceeds $12.00 multiplied by the number of hours worked for that week to qualify.

The exemption applies in the case of an employee paid a fixed salary plus earned commissions if the amount of sales commissions exceeds the total amount of salary payments for a chosen representative period.  If a company compensates a worker purely by sales commission, this “51% – 49%” calculation is of course irrelevant.

The employer must chose a representative period to establish the plus-50% commissions and minus-50% salary ratio that is at least one month and but no more than one year in duration.  The employer should pick a reasonable duration at or between those extremes that is a fair reflection of the salesperson’s true weekly average of earned commissions.  For example, where a company’s sales to the public and commissions paid are relatively constant month-in and month-out, then picking a relatively short representative period is reasonable.  In a business with seasonally high or low periods of sales, then calculating the average weekly figure for commissions should reasonably require a period nearer or at a year’s-worth of activity.  It is conceivable that a business could have some types of sales that warrant a shorter representative period than for sales of other products or services.  Whatever representative period(s) the employer chooses, the employer must document the average ratio for each employee for each such period.

Federal rules limit qualification to those who work in the “retail and service industry.”  Employers are engaged in the “retail and service industry” within the meaning of the federal Fair Labor Standards Act if they derive at least 75% of their annual sales revenue from goods or services not for resale and are recognized as a retail or service establishment in their industry.

While an employee qualified for the inside salesperson exemption does not earn overtime compensation, he or she is nevertheless entitled to the meal breaks and rest periods accorded hourly, non-exempt-from-overtime workers.  See, e.g., California Wage Order 4 at sections 11 and 12.

There is potentially much more at play under both state and federal rules. For actual legal advice on how any of these rules apply to actual workplace arrangements, management should consult with qualified labor and employment counsel.