New Option for Employers: Reducing Exempt Employees Salaries and Days of Work Simultaneously

In a move favorable to California employers, the Division of Labor Standards Enforcement (DLSE) issued a surprising opinion reversing its long held position regarding the furlough of exempt employees. In Opinion Letter 2009.08.19, the DLSE opined that an employer who reduces the workweek and corresponding salary of exempt employees due to an economic hardship does not automatically violate the salary basis test (which would result in destroying an employee’s exempt status). In other words, struggling employers can cut an employee’s salary and days of work simultaneously without destroying the exemption.

The Opinion Letter responded to an inquiry from an employer’s representative who wanted to know whether the employer could reduce the workweek of its exempt employees and salaries proportionally without running afoul of the salary basis test for “white collar” exempt employees. The employer was experiencing significant economic difficulties due to the current economic downturn. They had already terminated a number of employees and wanted to avoid laying off more, but needed to reduce their costs until business improved. The employer proposed reducing the employee’s scheduled workdays from five days to four per week and to reduce exempt employee’s salaries by 20 percent. Upon an improvement in the economic climate, the employer intended to resume the five day workweek and restore salaries to their full amount.

In its response to this proposed reduction, the DLSE relied on federal wage and hour law – on which a number of aspects of California’s wage and hour law is modeled – noting that there was no California authority directly on point to the question presented. Previously, the DLSE position was that the “applicable federal regulations precluded an employer from reducing the salary of an exempt employee during a period in which the company operates a shortened workweek due to economic conditions.” This opinion was based on a federal trial court decision that ruled a reduction of workweek and salary to be impermissible under the salary basis test and “constituted an actual and improper deduction.” In a subsequent case, a higher court rejected the trial court’s holding stating that the lower court’s ruling was misguided and not well-reasoned.

In keeping with the most recent federal decisions, the DLSE rejected its previous position and adopted the opinion that, under California law, an employer may reduce the workweek and salaries of exempt employees during a time of economic adversity so long as the change occurs infrequently and the exempt employee still meets the salary test after the reduction in the work schedule and salary.

This position is favorable to California employers; however, they are cautioned to think through their decision to furlough exempt employees on the basis of economic hardship. The decision does not clearly sanction any type of workweek reduction; indeed, a reduction in hours (as opposed to full days) would likely be unacceptable. In addition, by pleading “economic circumstances” necessary to justify the exception, an employer may be forced to prove this justification if an employee challenges the reduction in salary and days worked. Before proceeding with a furlough, employers should talk with their legal counsel to discuss these as well as other potential risks or unintended consequences.