What Does Exempt Mean for Your Employees?

Understanding the differences between employees and exempt workers and correctly classifying them helps ensure compliance, financial accountability, and workplace fairness. Doing so helps avoid potential trouble with federal, state, and local laws. These consequences could result in costly and time-consuming penalties, such as tax liabilities or class action lawsuits. 

Broaden your understanding of the exempt classification and explore the basics of how exempt employees differ from other compensation statuses.

Exempt vs. non-exempt status

The Fair Labor Standards Act (FLSA), which dates back to 1938, establishes minimum requirements for employee compensation, including minimum wages and overtime pay, and provides two main classifications for employees depending on their salary and type of work: exempt and nonexempt. 

Exempt employees are not eligible for overtime pay or minimum wage. Instead, employers must pay exempt employees a salary. Non-exempt employees must account for all time worked and time off, such as sick time, vacation, or other types of leave. If these employees work over the standard 40-hour work week, the FLSA requires employers to pay them overtime for any excess hours.

Read more: What Is Employee Relations? Definition + Career Guide

Key differences

Many factors impact employee classification, including how much an employee receives, how they get paid, their job role and definition, their authority level, and their place of employment.

Note that exempt and non-exempt employees pay taxes based on the same income brackets despite the differences between the two classifications. Each type of worker continues to earn taxable income regardless of how the employer classifies the employee.

Examples of exempt employee roles

Exempt roles typically include administrative roles that involve routine and independent discretion. Remember that this is only a partial list of jobs that qualify for exempt status. 

• Executive employees: These employees manage a business or a department within a company (e.g., CEOs, COOs, vice presidents, directors). They typically supervise at least two or more employees, have the authority to hire and fire employees, and significantly impact the business's overall operations. 

• Administrative employees: Administrative employees perform work related to managing or operating the employer’s general business. They have to use discretion and make decisions on significant business matters. This category might include human resources managers, financial analysts, and marketing managers.

• Professional employees: Professional employees have knowledge in an advanced or specialized area. They typically have a degree in a specialized field or acquired expertise through work experience. These roles could include doctors, engineers, lawyers, and architects.

• Computer employees: Computer employees handle IT tasks such as programming or software engineering. The exemption may apply to computer analysts, computer programmers, software engineers, or similar technical roles.

Pros and cons of exempt status for employees and employers

Considering the benefits and disadvantages of exempt status, you must differentiate between the employee and employer. Both employees and employers note various advantages and disadvantages related to exempt status.

Employee advantages

Some advantages exempt employees may have include:

• Higher, consistent salary: Exempt employees typically earn a higher salary than hourly workers. Plus, you can count on a consistent salary without worrying about a drastic income drop if you decrease your hours worked.

• Greater flexibility: Exempt employees typically have more flexible hours with options to work from home or work non-traditional hours.

• Greater job satisfaction: Exempt, salaried employees may find greater satisfaction if they have more opportunities to make independent decisions and the freedom to complete work at their own pace.

Employee disadvantages

On the other side, exempt employees may face the following disadvantages:

• Longer work hours: Although you may have freedom regarding your work hours, you may also have to work longer hours without compensation in the form of overtime pay.

• Vulnerable to exploitation: Exempt employees may have more difficulty taking time off or pursuing other interests outside of work without overtime pay and minimum wage requirements.

Employer advantages

Some advantages employers may have when classifying employees as exempt include the following:

• Greater flexibility and efficiency: Exempt employees can facilitate the management of staffing needs and help respond to changing business demands. Having employees who may bring more knowledge and experience to their duties gives employers greater flexibility to adapt and efficiency in operations.

• Avoiding overtime pay: Since exempt employees do not require overtime pay for extra hours worked, this can offer an employer great cost savings.

Employer disadvantages

Employers may also face disadvantages when hiring exempt employees, such as:

• Higher risk for significant mistakes: The same greater responsibility could also work against a business, as more responsibility could lead to additional stress, which could cause mistakes.

• Higher minimum salaries: Exempt employees typically require a higher minimum salary level. Additionally, you cannot deduct any hours not worked from the regular work week since salaries follow a 40-hour workweek model.

Read more: Employee Experience: Understanding and Elevating It

3 tests to determine exempt status

Employees need to pass three tests set by the FLSA to qualify for exempt status. Aside from exceptions, the three tests include the following:

Salary basis test

This requirement states that employers pay employees at least $913 per week or $47,476 annually [1]. Employees must also receive their full predetermined salary on a weekly basis regardless of work hours, work quality, or duties.

Salary level test

The employee must receive payment meeting a minimum salary level. Effective July 1, 2024, the Department of Labor (DOL) revised the regulations to increase the minimum salary threshold to $844 per week or $43,888 per year, and it will increase again on January 1, 2025, to $1,128 per week or $58,656 per year [2]. Again, this salary level is regardless of the hours worked, the employee’s quality of work, or their job duties.

Duties test

Employees are exempt when their duties involve specific administrative, professional, or executive tasks. Exemptions exist for highly compensated individuals, outside salespeople, and employees involved in systems analysis techniques and procedures, implementing or creating computer systems or programs.

Why is it important to classify employees correctly?

Proper classification of your employees helps you comply with regulations, account for employees appropriately, and show workplace fairness. At the same time, incorrect employee classifications can lead to legal penalties, employee lawsuits, loss of business, and increased costs. 

Compliance

Employee classifications determine their eligibility for legal protections and benefits. For instance, full-time salaried employees typically receive retirement plans, paid time off, and health insurance. Independent contractors don’t.

Accountability

Classifying employees properly ensures you pay the correct amount of taxes and insurance. Misclassifying employees may require the organization to pay back taxes plus interest. It could even face legal action.

Fairness 

Misclassifying employees can lead to unequal treatment and create a toxic work environment, ultimately affecting employee retention and productivity. Correctly identifying employees helps ensure fair treatment regarding pay, benefits, and job security.

Next steps

Understanding labor laws, including the requirements for exempt and nonexempt employees, is essential for human resource professionals and business owners.  Explore employee classifications through the University of Minnesota’s Managing Employee Compensation on Coursera. You can explore more about pay philosophy, salary structure, various employee incentives, and benefits.

Compensation may be one of several areas you want to explore while developing your skills in managing and appraising your team. In that case, the University of London’s The Manager's Toolkit: A Practical Guide to Managing People at Work on Coursera could provide the broader people management approach you need.