Employment law is constantly evolving. Just this year the FTC is attempting to ban almost all non-compete agreements and the Department of Labor raised the salary threshold for exempt employees. Those two changes alone will affect millions of employees across the U.S.
The number of employment-related lawsuits is increasing, with wage-and-hour disputes being the biggest riser. Nearly 50% of all class action lawsuits filed in the U.S. are brought by employees for purported wage-and-hour violations.
Small and midsize businesses—which rarely have a fully-staffed HR team or in-house legal counsel—have an (understandably) difficult time keeping up with the latest developments in employment laws.
This article can’t address every employment law issue that Arizona business owners need to understand, but it will (hopefully) provide answers in a Q&A format to some of the most prevalent employment law issues facing business owners today.
Worker classification: W-2 v. 1099
One of the threshold decisions that every business faces when hiring a worker is whether to classify that worker as an employee (W-2) or as an independent contractor (1099-MISC). This is a very important decision, and if made incorrectly, can have severe consequences down the road.
- Why does the government care if my workers are classified as W-2 or 1099?
The government’s role is, in part, to collect taxes and protect employees. Independent contractors, by virtue of business write-offs and deductions, typically generate less tax revenue for state and federal governments than a comparably compensated W-2 employee.
State and federal laws also mandate that employees be paid at least minimum wage and overtime wages. Independent contractors do not receive those same protections. The government wants to make sure that employees are not being taken advantage of via misclassification as an independent contractor.
- Which federal agencies are most likely to audit/investigate my business about worker classification issues?
The I.R.S. will audit a business and seek unpaid unemployment taxes and withholdings.
The U.S. Department of Labor will audit a business’s payroll records and timesheets, looking for employees who were not properly paid minimum and/or overtime wages.
- What state agencies are the most aggressive in enforcing misclassification issues?
The two main agencies are (1) the Industrial Commission of Arizona (which investigates unpaid wage claims and oversees workers’ compensation claims), and (2) the Department of Economic Security (which pays out unemployment benefits).
- Which industries do worker misclassification issues affect the most?
Construction, home health care, landscaping, trucking and transportation, event planning, and janitorial service.
- What are the consequences to a company that has misclassified its employee as an independent contractor?
The consequences are significant. A governmental audit may result in back taxes, fines, interest, unpaid wages, and unpaid premiums, not to mention the resources spent complying with the audit.
Employees can individually (or collectively, and as part of a class action) bring private lawsuits to recover their unpaid minimum or overtime wages. This is probably the fastest growing area of litigation in Arizona. Under Arizona law, employees can recover up to three times the amount of their unpaid wages, plus attorneys’ fees and costs.
- What if my worker wants to be paid as a 1099 and signs an independent contractor agreement?
Except in a few limited circumstances, it doesn’t really matter. The law looks at the nature of the relationship between the worker and the business (not what the parties agree to call it) to determine whether the worker is a W-2 or a 1099.
- How do I determine whether my workers have been correctly classified?
This is the trickiest question of all. Nearly every government agency applies its own multi-factor test when determining whether a worker should be classified as an employee or independent contractor. Some tests contain up to 20 different factors, with no one factor being dispositive.
There isn’t enough space to outline and discuss every factor of every test applied by every government agency. Most tests, however, focus on (a) the company’s “right to control” the work that is being performed, and (b) whether the work performed is an integral part of the company’s business.
- What about outside sales reps and/or real estate agents?
The door-to-door and real estate industries must have powerful lobbies in Washington D.C., because they managed to get a specific statute inserted in the Internal Revenue Code, § 3508, which provides that outside sales reps and real estate agents are properly classified as independent contractors if they satisfy three requirements.
Outside sales reps must (1) be engaged in the trade or business of selling consumer products in a customer’s home or elsewhere, just not in a permanent retail establishment, (2) substantially all of their compensation is paid on a commission basis rather than the number of hours worked, and (3) they have a signed contract in writing declaring the sales rep to be an independent contractor.
Real estate agents are properly classified as 1099s if they (1) are a licensed real estate agent, (2) substantially all of their compensation is paid on a commission basis, and (3) there is a written contract identifying the agent as an independent contractor.
- What are arbitration clauses, and how do they help my business avoid a wage-and-hour class action lawsuit?
Arbitration is a private forum to resolve disputes. The parties typically split the cost of hiring a private attorney or retired judge to oversee a trial, but there is no jury, and the proceedings are not a matter of public record.
As per a recent United States Supreme Court opinion, an employer can lawfully require an employee to waive the right to bring a class or collective action, as part of an agreement to arbitrate employment disputes on an individual basis. Employers who want to avoid being sued in a class-action by their employees should have each employee sign an arbitration agreement with a class-action waiver.
Salaried employees and overtime wages
Many employers mistakenly believe that salaried employees are not entitled to overtime wages simply because they are paid a salary. Unfortunately, the analysis is more complicated than that.
- What is the Fair Labor Standards Act (FLSA)?
The FLSA is a federal labor law that establishes a minimum wage, regulates overtime pay, and sets limits on child labor.
- What does it mean when an employee is exempt from the FLSA?
The FLSA provides that all employees are entitled to time-and-a-half overtime pay unless that employee is considered exempt from the FLSA.
- How do I know if my employee is exempt from the FLSA?
The FLSA provides an exemption from both minimum wage and overtime pay for individuals employed as an executive, administrative, professional, computer, or outside sales employees. To be exempt, employees generally must meet certain tests regarding their job duties and are paid above a certain salary threshold.
- Who qualifies for the executive employee exemption?
An employee whose primary duty must be managing the enterprise, regularly directing the work of at least two full-time employees, and who has discretion over personnel decisions in the workplace.
- Who qualifies for the administrative employee exemption?
An employee whose primary duty must be the performance of office or non-manual work related to the management or general business operations and who has discretion when it comes to matters of significance.
- Who qualifies for the professional employee exemption?
An employee whose primary duty must be the performance of work requiring advanced knowledge in the field of science or learning which is typically acquired through specialized intellectual instruction.
- Who qualifies for the computer employee exemption?
An employee who is employed as a computer systems analysis, computer programmer, software engineer or other similarly skilled worker in the computer field. Importantly, this exemption does not include employees engaged in the manufacture or repair of computer hardware and related equipment.
- What’s the salary threshold for exempt employees?
$844 per week ($43,888/year). This means that an employee who fits within one of the above exemptions and is paid a salary at or above $844/week is not eligible to receive overtime pay. Conversely, employees who fit within one of the exemptions but are paid less than the salary threshold are entitled to overtime pay.
- Did that salary threshold recently change?
Yes. The salary threshold changed on July 1, 2024. The previous salary threshold was $684/week ($35,568/year).
- Are hourly employees automatically entitled to overtime wages?
Generally, yes. But there are some exceptions for computer professionals and individuals who fit within the professional exemption, such as teachers, lawyers, doctors, etc.
- What are the consequences of failing to pay overtime wages?
Employers could be subject to expensive and time-consuming wage-and-hour audits from various government agencies as well as private lawsuits brought by their employees. Arizona law allows employees to recover up to three times the amount of their unpaid wages and their attorneys’ fees and costs. This is designed as a deterrent and penalty to would-be offenders.
- What can business owners do to prevent wage-and-hour lawsuits?
First, have each employee (new and current) sign an agreement requiring that any disputes must be resolved in arbitration and on an individual basis (i.e., the employee cannot join a collective or class action). Second, identify any salaried employee who is currently designated as exempt and determine if the increase in the salary threshold affects them. Third, institute a written policy that employees are not permitted to work overtime unless they first receive written authorization from their supervisor. Lastly, have salaried non-exempt employees track their hours at work—many wage-and-hour cases arise from employees claiming they worked overtime, and their employer having no way to disprove those claims because the employees were not required to fill out timesheets.
Employee handbooks and hr policies
- What is an employee handbook?
It is a document that codifies a company’s values, history, mission, and provides details about specific procedures and guidelines. It sets workplace expectations and includes procedures to be followed in certain situations (such as reporting workplace harassment or seeking reimbursement for travel expenses). Importantly, an employee handbook is not an employment agreement, and it does not alter an employee’s at-will status.
- Why is an employee handbook important?
A well-drafted handbook protects an employer and its employees because it (1) sets clear expectations for workplace behavior; (2) reduces uncertainty when it comes to protocols and decision-making; and (3) communicates important company policies like timekeeping, paid vacation, sick leave, etc.
- Does the employee need to sign or acknowledge receipt of the handbook?
Yes, and the employer needs to save the acknowledgment in the employee’s personnel file. This proves that the employee has reviewed and agreed to comply with the company’s policies, which can be especially helpful when disciplining or terminating an employee.
- How can an employee handbook help during an employment lawsuit or investigation?
A well-drafted employee handbook can be one of the most important pieces of evidence a business relies on to defend itself. For example, defending a wrongful termination case is much easier when an employee has violated the handbook’s clearly-defined workplace policy and the policy provides that a breach of that policy warrants termination.
- How often should an employee handbook be updated?
Given that employment laws are constantly changing, companies should have a knowledgeable employment attorney review and update (if necessary) the handbook every 12-24 months.
Employers who have specific questions about worker classification, overtime wages, handbooks and HR policies, or any employment law topics should consult with an employment law attorney.
Click here to read Lindsay's article published by the Phoenix Business Journal.
About the Author
Lindsay Leavitt represents and advises companies of all sizes in employment and business litigation matters. From mom-and-pop shops to publicly-traded corporations, Lindsay’s clients value his aggressive, yet practical approach to resolving their legal disputes.