Overview: A major constraint upon offering pay and benefits, as well as establishing systems to administer these rewards, is the law of the land. This chapter describes these laws and their effects.
A great many things influence the compensation of the employees of any organization. Some of these are external to the organization, such as the labor market and the law. Some are internal to the organization, such as organizational culture and policies. Some are part of the employee, such as skill and performance. This chapter is the first of three chapters that describe these external and internal influences on compensation - its focus is that of the legal environment.
The legal environment in which U.S. compensation administration is practiced consists of federal and state legislation and the regulations imposed by executive branches of these governments. In the case of some developing legal concepts, case law (court decisions) represents the public position. In these forms, government is stating public intentions or guides to decision makers. Although private organizations tend to characterize these laws, regulations, and court decisions as constraints, they may also represent opportunities. It is difficult to portray this legal environment briefly. In essence, the "rules" state that compensation must not be too low or (at times) too high, but that within these limits compensation decisions should be left to the parties involved. Also, in the interest of fairness, certain groups have been protected, and all must be paid when wages are due.
Unfortunately, governments have not labeled the laws, regulations, and cases according to categories of compensation. Nor indeed have they limited them to compensation matters. Because our concern is with benefits and compensation, we will focus on the guides of concern to benefit and compensation decision makers.
The oldest US labor law is the US Fair Labor Standards Act (FLSA), often called the wage and hour law. It has four provisions that affect compensation programs. It has four provisions that affect compensation programs. These provisions concern minimum wages, overtime pay, record keeping requirements, and equal pay. (We say "tired" because many of its dollar limits have not been changed in sixty years.)
Minimum-wage provisions set a floor on the amount of pay an employee must receive. The minimum wage is currently $7.25 per hour effective July 24, 2009. It was signed into law on May 25, 2007 as a rider to the U.S. Troop Readiness, Veterans' Care, Katrina Recovery, and Iraq Accountability Appropriations Act, 2007.
There is no consistent change process for the minimum wage. In the past, Congress has raised the minimum wage by amending the FLSA whenever the floor falls below about 50 percent of average hourly earnings. In 2003 the minimum wage had fallen to 38% of average hourly earnings.
Most states have enacted their own minimum wage laws. All but five states have their own minimum wage, most of them higher than the national minimum. These state minimum wage rates prevail if they are higher than the national rate. See www.dol.gov/whd/minwage/america.htm for information regarding state minimum wages. For Canadian minimum wages by province, visit the Government of Canada minimum wage database.
The minimum wage is a contentious concept. Advocates claim that some minimum wage is required in society because of the imbalance of power between the employer and employee. This is particularly true in the lower levels of the economy. By having a minimum wage, the country is reducing the dependence of some people on the "safety net" of society and thus lowering the cost of government. Opponents of the minimum wage claim that it creates unemployment in the lowest level of workers and puts a hard burden on small businesses.1
Noting that minimum wage increases have lagged behind changes in the cost of living, advocates are moving beyond the concept of a minimum wage to that of a living wage. A living wage is one at which employees can support their families above the federal poverty line. Over 50 local government entities have passed living wage ordinances. These ordinances require any organization doing business with the entity to pay their employees a minimum living wage. These ordinances range from $10.69 in Milwaukee, Wisconsin to $20.14 with benefits or $21.39 without benefits in San Jose, California. Government entities are not alone in instituting a living wage; some companies are joining in. These companies claim that subscribing to a living wage results in the following benefits:
For information on living wage levels for various locations, go to: http://livingwage.mit.edu/
Coverage of the FLSA has been extended over time. Today, the minimum wage provisions cover almost all employers. Formally, covered employers are those with at least two employees engaged in interstate commerce, producing goods for interstate commerce, or having employees who handle, sell, or otherwise work on goods or materials produced for or moved in interstate commerce. Not surprisingly, this has been interpreted to cover almost all employers. Retail or service establishments with any significant annual gross sales are covered.
Construction companies, laundries, dry cleaners, and private hospitals and schools are covered regardless of volume of business. Practically speaking, just about every business is covered unless it qualifies for one of the special exemptions (very small retailers, fishing and fish processing, seasonal amusement and recreational establishments). In some cases jobs that are governed by some other federal labor law, such as the Railway Labor Act may not fall under the FLSA.
Not all employees are covered by the FLSA. The act separates jobs into exempt and nonexempt. Organizations often use this distinction to establish very different human resource policies, not only those pertaining to compensation but other policies regarding how employees are to be treated.
Exempt. As suggested, these are employees who are not subject to the requirements of the FLSA. Such employees are considered salaried and are generally paid a fixed salary regardless of hours worked.
Nonexempt. These are employees who are subject to the minimum wage and overtime provisions of the FLSA. They must be paid at time and a half for all hours worked over forty in any one week.
There are some jobs and/or organizations that are exempt under the act. For a list of these jobs go to: www.dol.gov/elaws/esa/flsa/screen75.asp
The Department of Labor released new FLSA regulations in 2004 and in 2016 rules to update them. The 2004 regulations simplify the tests for determining an employee's exempt status and are meant to reduce litigation costs. The determination of whether a specific job is exempt or nonexempt depends on (a) how much they are paid, (b) how they are paid, and (c) what kind of work they do.
Salary Level Test. Employees who are paid less than $23,600 a year ($455 a week) are generally nonexempt. Those paid over $100,000 a year are exempt provided they perform at least one of the duties of the executive administrative or professional categories below (this is referred to as the highly compensated exemption or HCE). In 2016 the salary level tests were changed to $47, 476 a year ($913 a week) for generally nonexempt employees and $134,004 a year for HCEs.
Salary Basis Test. A salary is a predetermined amount of pay that constitutes all or part of the employee's compensation for the pay period. This predetermined amount is a fixed amount and may not be reduced based on the quality or quantity of the work performed. A salary is generally expressed as an amount paid per week, per month or per year.
Generally speaking, if the exempt employee performs any work during the workweek, he or she must be paid the full salary amount. An employer may not make deductions from an exempt employee's pay for absences caused by the employer or by the operating requirements of the business. If the exempt employee is ready, willing and able to work, deductions from the employee's pay may not be made when no work is available.
Duties Test. The major groups of exempt employees are executives, administrative employees, professional employees, computer-related occupations and outside sales personnel whose jobs match the definitions provided by the Wage and Hour Division (WHD) of the Department of Labor. Placing people on salary does not by itself make them exempt, but where the match between an organization's job and the WHD definitions leaves some room for question, amount of weekly pay decides. Employers may seek permission to pay less than the minimum wage to apprentices, handicapped workers, or full-time students.
In 2016 several FLSA rule changes were introduced. The standard threshold as covered earlier doubled to $913 week, or $47,476 on a yearly basis. This number represents the 40th percentile earnings of full-time salaried workers. In determining compliance with this standard salary threshold, employers can include nondiscretionary bonuses and incentive payments (including commissions) to satisfy up to 10 percent of the new standard salary level. This refers to "metric-specific" or pay- for-performance incentive plans, which most organization are now incorporating into their total rewards programs. Also, the annual compensation threshold for HCEs is set to $134,004, the 90th percentile of earnings for national full-time salaried workers.
The other change was automatic updates to the thresholds occurring every three years. This provision serves to automatically update to maintain the threshold levels at the 40th percentiles for standard salary and 90th percentile for the total annual compensation of HCEs.
The FLSA requires that nonexempt employees be paid 150 percent of regular pay for all hours worked in excess of 40 per week. The rationale for this was originally to help spread work out among more workers during the depression by making it more expensive to give a worker more hours than it would be to hire an additional worker. This argument is not as valid today as it was then. Today hiring another worker may well exceed the cost of paying a current worker overtime wages, given the recruitment and training costs of skilled workers, plus their benefits.
Workweek. The workweek is defined as a period of 168 hours during seven consecutive 24-hour periods. An employer may arbitrarily decide the day and the hour the workweek begins. Hours cannot be shifted from one week to another. An exception to this rule is that a hospital may use 14-day work periods and an 80-hour breakpoint. Another exception is that some employers are permitted week-to-week balancing under a collectively bargained guaranteed-wage plan. States may have different definitions of the work week. Most significantly, many states require overtime for hours worked over eight in a single day.
Determining hours worked is not always an easy thing. Generally, if the employee is required to be on the employer's premises, the employee is considered to be working. Break times must be included by law (OSHA) but meal times may be excluded. The latest problem is the determination of hours worked when employees are "on call."
Wage Rate. Employees are entitled to 1½ times their regular wage rate. The regular rate is the hourly pay rate plus some other forms of compensation received by the employee, such as a shift differential.
Calculating overtime pay is straightforward for employees paid by the hour. For employees on a wage incentive plan, the base rate is average hourly earnings. Salaried employees' base rate is determined by (1) converting monthly to weekly salary (divide by 4 1/3) and (2) computing the hourly rate (divide by 40).
Compensatory Time. Comp time refers to time off granted to an employee for time worked beyond the work week but for which no overtime was paid. The use of comp time by private employers is illegal. However, it may be used in governmental jurisdictions. Employers may work an employee longer than his or her normal work day and then grant time off at the regular pay rate as long as the time off falls during the current work week.
As implied in our discussion of minimum wages, employees who are exempt from minimum-wage provisions are exempt from overtime provisions. Employers may, of course, pay overtime to these exempt employees but are not required to do so. Additional exemptions from overtime provisions of the FLSA are agricultural employees, truck drivers, railroad and air-carrier employees, some local delivery people, and taxi drivers.
Under the FLSA, employers must collect and keep certain wage and hour information on nonexempt employees. In general, the purpose of these record-keeping requirements is to permit the Wage and Hour Division to enforce the minimum-wage and overtime provisions of the FLSA. Such information as the following is required: employee's name, address, occupation, gender; definition of workweek; total hours worked each workday and workweek; basic pay; regular hourly rate; overtime pay; deductions and additions to pay; total wages for period; pay date and period; and special information - estimated tips, payments in kind.
One of the major tasks in Compensation Administration is determining the market or competitive rate for jobs, often termed the "average or going rate." Another way of stating this is that there is a search for the prevailing wage. The government uses this term when it wishes to ensure that workers are being paid the average of all workers in a job category. However, the government's use of this term is more like that of "minimum wage" than of an average wage. While the calculation is of the average wage, the requirement is that the employer must pay at least the prevailing wage. In this way, the prevailing wage is a floor below which the employer may not pay. In most cases, if the employer pays more for the job than the prevailing wage, this becomes the required wage. Presently, there are two major sets of laws that require prevailing wage analysis: government contracts and immigration programs such as H-1B. Each of these has specific methodologies in which the prevailing wage is determined, and the government provides the figures for determining the prevailing wage. However, private wage surveys also can play a role in these determinations. Both federal and state governments have laws requiring contractors supplying goods or services to the government to pay "prevailing" rates.
The Davis-Bacon Act of 1931 requires the Secretary of Labor to determine prevailing rates applicable to government construction contracts in excess of $2,000. The law is controversial primarily because the Secretary has used union rates in the geographical area as the prevailing rate. Employers argue that the law does not require the Secretary to use union rates and that doing so raises wages and government expenditures. Labor leaders argue that changes in administration of the law would weaken unions and union contractors.
The Walsh-Healy Public Contracts Act of 1936 applies to employers that are a party to federal contracts for materials, supplies, and equipment in excess of $10,000. It requires these employers to pay prevailing wages in the industry as determined by the Secretary of Labor. Walsh-Healy also requires covered employers to pay overtime at one and a half times the base rate for all hours in excess of 8 in a day or 40 in one workweek, whichever is greater.
The McNamara-O'Hara Service Contract Act of 1965 extends Davis Bacon concepts to government contracts for services. Contractors holding service contracts of $2,500 or less must not pay service employees less than the minimum wage. Contractors holding service contracts in excess of $2,500 must pay employees no less than the wage rates and benefits found by the Department of Labor to be prevailing in the area, or no less than the compensation (pay and benefits) found in the previous contractor's collective-bargaining agreement.
In the United States, due to a shortage of qualified applicants, particularly for professional level jobs, congress passed a number of new immigration laws to expand the number of foreign workers who may enter the United States. A major feature of these acts is that they require the employer to pay the prevailing wage.
To institute this requirement the US government contracted with all State Employment Service Agencies (SESAs) to create a national salary survey covering 631 geographic areas. This wage survey was developed within the Department of Labor's Bureau of Labor Statistics and is called the Occupational Employment Statistics Survey (OES). The determination of the prevailing wage is done by the SESAs using this survey's rates or a competitive salary survey.
These rules covering immigrants' prevailing wages were codified in a Regulation, General Administrative Letter 2-98.
In arriving at prevailing wage determinations, the same policies and procedures shall be followed for the permanent labor certification program, the nonimmigrant program pertaining to H-1B professionals in specialty occupations or as fashion models of distinguished merit and ability, and the H-2B temporary nonagricultural labor certification program.
The purpose of these requirements is to ensure that immigrants under these programs are paid as much as workers who are "similarly employed in the area of intended employment." This term is defined as substantially comparable jobs in the occupational category in the area of intended employment, except that if no such workers are employed by employers other than the employer applicant in the area of intended employment, "similarly employed" means
Occupations within an OES code will be considered as meeting the criteria of similarly employed as defined above.
A complex set of regulations has evolved to cover the pay of immigrant employees (excluding agriculture workers). For instance, there is a complex set of rules related to the use of salary survey data in dealing with immigrant employees.
The effects of wage floors (both minimum-wage laws and prevailing-wage laws) have long been a matter of controversy. Economic theory shows that wage floors may reduce employment by in effect prohibiting the employment of individuals not worth the floor. Economic theory also suggests that such floors may contribute to inflation by providing targets against which non-covered employers may be compared and by restoring customary relationships when they are raised. A contrary view is that wage floors reduce poverty by keeping wages above subsistence levels. It is also argued that wage floors prevent exploitation of employees and may in fact improve employer utilization of labor training programs to make employees worth what they must be paid.2
Although wage floors have existed as part of our legal environment for over 40 years, wage ceilings have usually been avoided. During times of strong inflationary pressures, however, attempts have been made to slow wage and price advances. During World War II, a War Labor Board was charged with devising and administering controls over wage changes. During the Korean War, a Wage Stabilization Board was created to control wage and price advances. Although evaluations of their effectiveness are mixed, wartime wage controls were generally adjudged to be necessary and somewhat effective, especially during World War II. Peacetime controls have been more controversial and less effective. The effectiveness of the wage-price guidelines of the 1960s in the Kennedy and Johnson administrations remains debatable. The more stringent controls in the Nixon administration were adjudged no more effective. The weaker controls under the Carter administration were probably even less effective. Since then, no controls have been in evidence.
The wage-control techniques tried in the United States have been: (1) a wage-price freeze for a limited period, (2) guidelines and "jawboning" by the administration, and (3) a wage-price review board. Another strategy, suggested but untried, is to tax organizations that exceed guidelines. Objections to controls are that they are either ineffective or harmful to the economy, depending on the technique used. It appears the more effective the controls, the more harmful they are to the economy. Problems with wage and price controls have appeared throughout the industrial world. These controls, called income policies, are designed to improve the trade-off between wage and price stability and unemployment (the Philips curve) by political means. Although these policies have not been notably effective economically, they can achieve political effectiveness for short periods. Getting agreement among various segments of society that their interests are being served is an unsolved problem.
A final type of wage legislation is the requirement that workers be paid the wages due them. State legislation typically specifies that wages be paid at regular intervals (one week or two) and that they be paid in cash or its equivalent. Payment in scrip (private currency) is usually prohibited, as is paying employees in barrooms. These laws also specify immediate payment if an employee is discharged.
There are also laws that limit the ability of creditors to attach the wages of employees, called garnishments, and to assign wages. These laws regulate the collection of debts from employees by restricting the amount of wages that may be deducted for such debts and by prohibiting employee discharge for a single garnishment. The Consumer Credit Protection Act, for example, restricts garnishments on worker earnings to the lesser of either (1) 25 percent of the debtor's disposable earnings for the workweek or (2) the amount by which the debtor's disposable earnings for the work exceed 30 times the minimum hourly wage. Disposable earnings are defined as compensation less legally required withholding (for Social Security and income taxes). Under this law, garnishment restrictions do not apply to federal and state tax debts, alimony and child support, or orders under bankruptcy proceedings.
Federal law preempts state law on garnishment amounts unless state law requires smaller garnishments. The federal law also forbids firing debtors for a single garnishment but not for subsequent ones. The federal anti-kickback statute, the Copeland Act of 1934, makes it illegal to require that the employees return a part of their earnings to employers or others for the privilege of working. The act applies to all federal projects and contracts. Several states have such laws to ensure that employees receive the agreed-on rates.
Discrimination in pay is a well-documented phenomenon, although the extent of it is controversial. This topic will be dealt with in depth in Chapter 27, Discrimination in Pay. At this time we will look at the laws that relate to discrimination in pay. These laws focus on two ideas, equal pay for equal work and equal pay for work of comparable value. Both of these standards are internal to the organization. The first makes a comparison of job content for similarity whereas the second examines the jobs for their value to the organization.
The Equal Pay Act of 1963 was passed as an amendment to the FLSA. It prohibits wage differentials between men and women employed by the same establishment in jobs that require equal skill, effort, and responsibility, and that are performed under similar working conditions. The act requires that all three factors (skill, effort, and responsibility) must be substantially equal for the jobs to be adjudged equal. Likewise, working conditions must differ significantly if pay differentials are to be justified. Actually, case law has accepted "substantial equality" between jobs as sufficient for equal pay.
The equal-pay provisions do specifically approve some conditions as justifying lower pay for women than for men. Wage differentials resulting from legitimate seniority systems, merit systems, or any system that ties earnings to quantity or quality of production are permissible. Wage differentials also may be based on factors other than gender (education required by the job, profitability to the employer). Part-time workers need not be paid the same as full-time workers. Differentials paid to family heads are permitted if both male and female heads of families are paid the differential.
Employers may not lower pay to correct violations of equal-pay provisions. Instead, the pay of the affected group must be raised to that of the favored group. There are no exempt employees under the equal-pay provisions of the FLSA; nearly all employers are covered by the act, as are unions that negotiate for covered employees. Most states have had equal-pay laws predating the federal statute, but they vary greatly in provisions and method of enforcement.
Equal employment opportunity (EEO) rules and affirmative action (AA) guidelines are to be found in several laws, a number of executive orders, and some case law. The principal federal laws are the Civil Rights Act of 1964 and 1999, the Americans with Disabilities Act of 1990, Section VII; the Equal Employment Opportunity Act of 1972; the Age Discrimination in Employment Act of 1967 and its 1978 amendments; the Vocational Rehabilitation Act of 1973; and the Vietnam Era Veterans Readjustment Assistance Act of 1974. The Equal Pay Act discussed previously may also be considered EEO legislation. State laws on civil rights matters have been in effect longer but have been superseded by federal laws. Executive orders 11246 of 1965 and 11375 of 1967 are the foundations of affirmative action programs. The most important legal cases will be cited shortly. These laws create two separate types of programs.
Equal Employment Opportunity. EEO programs prohibit discrimination based on race, color, gender, religion, age, or national origin in any of the terms of employment stipulated by employers, employment agencies, or labor unions. The Equal Employment Opportunity Commission issues guides for employer actions, record keeping, and reports that represent compliance with EEO. Court cases have developed the following two types of discrimination
Affirmative Action. AA programs call for positive steps to correct the results of past discrimination. Government contractors are the major group required to have AA programs, and the executive orders just mentioned spell out most of the requirements. AA programs also require employer activities, record keeping, and periodic reports. The handicapped and Vietnam veterans are covered by both EEO and AA requirements. Employer coverage varies somewhat under the different legislation and regulations.
Compensation and benefits is also affected by the Office of Federal Contract Compliance Programs (OFCCP).This office audits governmental contractors to ensure that there is no discrimination in them. Part of these audits is to examine wages and salaries by job category and level.
AA programs are very controversial as they involve corrective steps in which minorities are given special treatment in order to make up for past discrimination. Proponents see this as eminently fair, but opponents view it as a form of reverse discrimination. In general, courts have recently taken a hard line on programs that give minorities an advantage in selection plans intended to increase the ratio of minorities in employment and education. This is making it harder for organizations, such as universities, that see advantages to having a diverse group.
One useful way to view EEO and AA rules in their entirety is to use the concept of protected groups. Since compensation decisions constitute important terms and conditions of employment, they are covered by law. If compensation differentials exist between the majority employees and members of protected groups, the employer must be prepared to justify them. All compensation policies, programs, and practices of an organization should be examined as steps intended to guarantee that no discrimination against protected groups has occurred or can occur.
Comparable worth is an undeveloped legal concept that has become an important issue. It flows from the observation that women are paid less than men. More specifically, advocates of comparable worth call for equal pay for jobs of equal value. Note that this is different than equal pay, under which the jobs must be substantially equal. Equal pay concepts generally require similar duties, responsibilities, skill, and working conditions, that is, equal jobs. Comparable worth calls for equal pay for jobs of comparable value within an organization.
Three major court cases may serve to illustrate the issue. One involved nurses employed by the city of Denver.3 The nurses charged that they were being discriminated against in pay because of their gender. They showed that they were paid a lower wage than parking-meter repairers, tree trimmers, and sign painters. They argued that these wage differentials did not reflect any differences in type or value of work but were due rather to society's tendency to pay women less for their work than men.
The nurses based their case on the Equal Pay Act and the Civil Rights Act. The former was inappropriate because the jobs compared were different. But the latter appeared to apply, because jobs dominated by women were paid less than jobs dominated by men, even though the jobs were of equal or comparable worth.
The federal district court agreed with the nurses that occupations dominated by women could have historically been paid less than occupations dominated by men. It also agreed that such discrimination could in fact lead to a violation of a comparable worth criterion of fairness. But the court found against the nurses by citing the market rather than comparable worth as the proper standard. In fact the court commented, "This is a case which is pregnant with the possibility of disrupting the entire economic system of the US."
In the second case, a union charged that Westinghouse Corporation had historically established classes of jobs for wage-setting purposes that discriminated against women.4 They demonstrated that Westinghouse had segregated "women's" jobs from "men's" jobs and set lower rates for the former. The federal district court decided that such a practice discriminated against women and ordered it stopped.
In the third case, jail matrons doing work similar to but not equal to that of prison guards charged that they were being discriminated against because the difference in pay between the two jobs was much greater than the difference between the jobs themselves.5 In this case, the Supreme Court ruled that women who file lawsuits charging gender discrimination in pay matters may have valid claims under civil rights law.
All three of these cases have questioned the adequacy of the market as a criterion of job worth. Proponents of comparable worth argue that because women have been "crowded" into certain occupations, the labor market discriminates against them.6
Job evaluation as a formal method of comparing jobs is logically a potential solution. To the extent, however, that different job-evaluation plans are used for men's and women's jobs, the crucial job comparisons are not made. Also, to the extent that job-evaluation plans are developed on the basis of market wage rates for key jobs, job evaluation and market rates are not separate criteria.7 It is just as easily argued that job evaluation plans cause and perpetuate discrimination when they impose a measurement system developed by predicting a discriminatory environment. (One of the oldest point-factor plans continues in use today although its measures were developed to predict the pay of bank workers in Philadelphia in the late 1940s)
The issue of comparable worth will arise at several points in this book. At present it seems best to label it an undeveloped legal concept that may be settled by further court cases or by legislation. As an issue for compensation administrators, it seems important to recognize that wage decisions under our system are made for decentralized units. Thus, the issue is whether jobs and/or people in the organization are being paid on a nondiscriminatory basis. The larger issue of differences between men's and women's pay is beyond the control of the organization's decision makers.
Pay discrimination is dealt with in more depth in Chapter 27, Discrimination in Pay.
The Americans with Disabilities Act (ADA) has a limited but important relationship to Compensation Administration. The act requires that the "essential functions" of a job be defined to see if a disabled person could perform those functions. The logical place to find this information is in a job description. The problem is that since the major function of job descriptions in most organizations is compensation and not selection, the design of the job description is not set up for this purpose. The result is that general or old job descriptions can often be a liability. Some go further and argue that any written job description is dangerous. This can be seen in the language of the act that states; "if an employer has prepared a written description before advertising or interviewing applicants for the job, this description shall be considered evidence of the essential functions of the job." Despite these concerns, a properly developed job description is still the best defense. It should be noted that there is nothing that prevents the employer from changing the nature of the job and therefore its description as changes take place within the organization.
The legal environment of compensation administration includes the rules of the game in collective bargaining. Collective bargaining is a method of determining compensation (as well as other terms and conditions of employment) and is used where employees have chosen to be represented by a union. In this case, with very minor exceptions (union security clauses and discrimination matters), collective bargaining decides the terms of employment. See Chapter 3 for an expansion of unions and collective bargaining. If employers and employees prefer to strike individual bargains, the rules are those we have been discussing.
Tax laws are an obvious part of the legal environment of compensation administration. Anyone who has ever received a paycheck is aware of income tax withholding.
Less obvious, however, is the influence of tax laws on benefits and, especially, on executive compensation. Not all benefits are taxed; many are bargains in part because they are not. Some benefits provide deferred income that is not taxed until the employee receives the benefit. These provisions constitute many of the real benefits of pensions, profit sharing plans, and employee stock ownership plans. Equally important is the influence of tax laws on employer benefit costs. These laws often encourage certain kinds of benefit programs and discourage others. Under the present US Internal Revenue Code, certain benefits are not taxed; health and life insurance are examples. Other services or perquisites may or may not be taxed. For example, services or perquisites provided only to executives are considered taxable.
Many forms of executive compensation appear, expand, and even disappear in response to changes in tax laws. Stock options, for example, seem to expire or acquire new life in this way. Various forms of deferred income and restricted stock also seem to vary in this way.
For instance, in answer to perceived problems with executive compensation, congress passed the Sarbanes-Oxley Act in 2002. This act required a change in the accounting for stock options (see FAS 123) that made them less attractive and required a greater level of transparency in reporting executive pay.
For all of these reasons, tax laws are an important part of the legal environment of compensation administration. Understanding tax laws is a prerequisite to designing compensation programs. The complexity of this area is discussed in Chapter 19 on Executive Pay.
Just as minimum and prevailing-wage laws place a floor under wage rates, so Social Security, unemployment insurance, and Workers' Compensation can be interpreted as placing a floor for benefits. The Old Age, Survivors, Disability and Health Insurance Program (OASDHI) is at least as significant to employee benefits as the FLSA is to wages. The Employee Retirement Income Security Act (ERISA) of 1974 and the 1980 amendments applying to multi-employer pensions can be considered assurance-of-benefit-payment laws.
More than nine out of ten workers are covered by OASDHI provisions, which form the base of most benefit programs. The only workers not covered are federal civilian employees in the federal retirement system (as of now), state and local government employees who have chosen not to participate, some agricultural and domestic workers, and employees of some nonprofit organizations who have not arranged coverage. The programs under this label provide retirement, survivors, and disability insurance; hospital and medical insurance for the aged and disabled; black-lung benefits for coal miners; supplementary security income; unemployment insurance; and public assistance and welfare services.
Retirement, survivors, and disability insurance, as well as hospital and medical insurance for the aged and disabled are paid for by a tax on employers and employees. These taxes, authorized by the Federal Insurance Contributions Act of 1936, constitute the FICA deductions noted on paychecks. Employer and employee taxes and the earnings subject to tax have been rising along with benefits. In order to pay for this expansion, the tax has gone up over the years. In 2000, only the first $76,200 in earnings were taxed. In 2002, this rose over 10% to $84,900 and in 2005 to $90,000, and in 2016 was $118,500. This limit is very likely to keep rising.
Social Security also imposes some record keeping and reporting requirements on employers: amounts and dates of wage payments; amount of tips received; name, address, occupation, periods of employment; and Social Security number of each employee receiving wages. The W-2 form that each employer must provide each employee by January 31 for the previous calendar year is a requirement of Social Security.
This is a state-administered program operating under general requirements set out by OASDHI. Its function is to provide partial income replacement when a worker loses a job through no fault of his or her own. Unemployment insurance (UI) is funded by a tax levied by states on employers. In a few states, employees also contribute to unemployment insurance. The employer's tax depends on benefit levels in the state and the employer's record.
The employer's tax is adjusted up or down from the standard tax depending on the employer's record or experience rating. States vary somewhat in the way they compute the experience rating, but in all of them, the greater the number of successful UI filers, the higher the tax. Successful filers must register at a public employment office or the employment office web site to file for UI. The worker's previous job must have been covered by unemployment insurance and an earnings or employment test met. To draw UI, workers must be able to work, be available for work, actively seek work, and be willing to take a suitable job. Workers must have lost jobs through circumstances beyond their control; they cannot quit without good cause and cannot have been discharged for cause. In almost all states, workers may receive UI if they are unemployed because of a labor dispute in which they are participating. Both workers and employers have the right to appeal UI-eligibility decisions. Employers concerned with their experience ratings challenge claims they deem inappropriate and carefully document discharges.
Workers' compensation varies from state to state depending upon state laws. Because worker coverage, benefits to workers, and costs to employers vary tremendously from state to state, several national commissions have suggested federal standards. The goal of Workers' Compensation laws is to provide medical care and income to workers who are injured on the job or who acquire an industrial illness, and to provide support to dependents if a worker is killed; it is essentially an insurance program covering work-related injuries and illnesses. States vary in whether employer self-insurance is permitted, and whether a state insurance fund must be used or whether private insurance carriers are acceptable. Benefits are usually based on a worker's wages at the time of injury and the number of his or her dependents. Maximum and minimum payments for specified injuries and total claims are typically specified by law, as are time limits for benefit payments. Costs to employers are influenced by the provisions of the state law as well as by the employer's accident record.
Most US employers are required to provide health insurance coverage. There are four acts that affect health and medical benefits that employers provide:
Patient Protection and Affordable Care Act (PPACA or ACA for short)
Family and Medical Leave Act (FMLA)
Consolidated Omnibus Budget Reconciliation Act (COBRA)
Health Insurance Portability and Accountability Act (HIPAA)
On March 23, 2010, President Obama signed the Affordable Care Act. The Act makes available to all Americans access to affordable health insurance options. Some of the key provisions of the ACA include:
See www.hhs.gov/healthcare/facts-and-features/key-features-of-aca-by-year/index.html for more information.
Passed in 1993, the purpose of the act is to provide all eligible employees with leave of up to 12 weeks per year for specified family and medical reasons. Leave may be paid if the employee has earned paid time off. If the employee doesn't have earned paid time off, leave will be unpaid.
Such leave may be for:
The employee is to give 30 days' notice before taking such leave (when practical). The employee retains all benefits during the leave and is entitled to return to the same position or an equivalent one.
See www.dol.gov/dol/topic/benefits-leave/fmla.htm for further information.
Consolidated Omnibus Budget Reconciliation Act. The Consolidated Omnibus Budget Reconciliation Act (COBRA) entitles all eligible employees and their spouses and dependents to extend their group health benefits for up to 18 months upon leaving the employment of the employer covering them.
Under COBRA, employees are able to purchase extended health care coverage if their jobs ended for any reason other than gross misconduct or a reduction of hours. To qualify, the employee must have been a participant in the company's group health plan.Upon his/her termination, the company must provide the employee with written notice explaining the employee's rights under COBRA. The employee has 60 days from the date of notice to elect COBRA coverage. This coverage begins the day that health care coverage ended and lasts for up to 18 months (and longer in some cases). The employee pays the entire group rate premium for health care coverage plus a small surcharge, typically amounting to 102% of the monthly premium.
For more information, go to: www.dol.gov/ebsa/programs/opr/H-RES/berger.htm.
HIPAA established a federal role for regulating the employer group and individual insurance markets. The goal of the legislation was to provide coverage security for those currently insured. It guarantees the availability of insurance to all small employers (with 2 or more employees) and assures that individuals who leave employment are able to maintain health insurance coverage. Thus HIPAA ensures access to insurance for some employer groups and individuals who previously were unable to purchase health insurance or unable to purchase adequate coverage. HIPAA contains many provisions, including administrative rules intended to reduce the costs and administrative burdens of health care by making possible the standardized, electronic transmission of many administrative and financial transactions that are or were carried out manually on paper. Most importantly, it allows states to pass legislation affecting employer medical plans as long as those laws are more beneficial than federal law.
What effect this will have on the number of uninsured or the price people pay for insurance is debated, although the previous five years have seen costs again reach 12% annual increases and the number of national carriers drop dramatically (to two). The variability among states in existing insurance legislation, and the flexibility that states are given to implement the individual market reforms, suggest that the answer to these questions will vary.
Overall, HIPAA is not good news for administrators. HIPAA has made modern benefit administration evermore complex and requires administrators to constantly keep up with laws of the states in which they have employees. As states continue to pass diverse laws related to health care, it may make it all but impossible to safely manage self-insured medical plans. It may drive all the insured carriers from the market (or at least prevent carriers from insuring across state boundaries).
For more information on HIPAA, see www.dol.gov.
The Employee Retirement Income Security Act of 1974 (ERISA) was passed to ensure that pensions offered by private industry employers met certain standards and were received by employees. ERISA does not require employers to offer pension programs, but it does require that those who do offer them comply with certain rules if they want favorable tax treatment for both their contributions and for their employees' deferral of income.
ERISA requires that plans regularly provide participants with important information about features and funding. It sets minimum standards for funding, vesting, participation and benefit accrual. ERISA also requires that plan fiduciaries (those who manage a plan's assets) be accountable. Otherwise, these fiduciaries may be responsible for restoring losses to the plan. As additional insurance, ERISA allows participants to sue for benefits and breaches of fiduciary duty.
To insure that vested benefits are paid to employees in spite of employer default, the Pension Benefit Guarantee Corporation (PBGC) was created. A covered employer pays a charge per plan participant per year into the PBGC as an insurance premium. Vested benefits of up to a certain amount per month are guaranteed to participants.
The PBGC is a federal agency that assumes control of the defined benefit plan and pays basic benefits to retired workers in the event that an employer is unable to fund the defined benefit plan due to financial problems. Defined benefit plans are the only type of plan covered by the PBGC; and the PBGC does not guarantee the following benefits: vacation pay, health care, severance pay, and other non-basic benefits.
Under ERISA, an employee gains ownership of accrued pension rights through a period of employment. These ownership rights are obtained even if the employee leaves the organization before retirement. The process of acquiring ownership through employment time is called vesting. For defined benefit plans, an organization can use any of three vesting methods under ERISA.
The organization may also use a more generous vesting schedule.
ERISA also has requirements for defined contribution. For 2002 and beyond, ERISA requires companies to adopt a schedule at least as generous as one of two vesting schedules for 401(k) and 403(b) plans:
The topic of the legal issues in Benefits is covered more thoroughly in Chapter 21, Characteristics of Benefit Plans.
The legal environment continues to become more structured and demanding for the organization. While the basic laws in compensation were a result of the depression years, the new legislation is a function of the demands for social justice of the past 30 years. Except for the prevailing wage laws most of the laws deal with how wages or benefits are granted and not with the amount of the wages themselves.
The Fair Labor Standards Act (FLSA) continues to serve as the foundation for wage legislation.
As of July 24, 2009, the federal minimum wage is $7.25. In 2016 the exempt salary threshold was set to $47,476. In addition, the FLSA sets the standards for overtime and record-keeping requirements.
In addition, the FLSA sets the standards for overtime and record-keeping requirements.
The US government also requires that employers who are party to federal contracts pay prevailing rates. In addition, a set of federal regulations now governs what employers can pay to immigrants.
Equal Pay. The Equal Pay Act of 1963 was passed as an amendment to the FLSA.
The Equal Pay Act prohibits salary differentials between men and women employed by the same establishment in jobs that require equal skill, effort, and responsibility. Case law has interpreted "substantial equality" between jobs as sufficient for equal pay.
The concept of equal pay was expanded further through cases involving comparable worth. Comparable worth calls for equal pay for jobs of comparable value within an organization. Job evaluation is used to compare jobs and determine equal worth.
Equal Employment Opportunity. Equal employment opportunity (EEO) rules and affirmative action (AA) guidelines are found in several laws, a number of executive orders, and some case law.
EEO programs prohibit discrimination based on race, color, gender, religion, age, or national origin in any of the terms of employment stipulated by employers, employment agencies, or labor unions.
AA programs call for positive steps to correct the results of past discrimination.
Continually revised by Congress, tax laws have an important impact on employer benefit costs. Under the present U.S. Internal Revenue Code (IRC), certain benefits are not taxed — health and life insurance are examples.
However, other services or perquisites may be taxed. For example, services or perquisites provided only to executives are considered taxable. Because of this, executive compensation is continually adjusted to take advantage of changing tax laws.
In the field of benefits, there's a continuing trend toward legislation to protect employees' investment in their benefits. More than ever, it's necessary for employers and human resources professionals to know what federal law requires.
Legally required employee benefit programs include:
Benefits administrators must be up to date on state and federal regulations regarding the latter two programs.
There are also three new federal acts that affect how employers administer their health and medical programs:
Patient Protection and Affordable Care Act (PPACA or ACA for short)
The Family and Medical Leave Act (FMLA)
The Consolidated Omnibus Budget Reconciliation Act (COBRA)
The Health Insurance Portability and Accountability Act (HIPAA)
ERISA was passed to ensure that pensions offered by private-industry employers met certain standards and were received by employees.
ERISA does NOT require employers to offer pension programs. But it does require that those who do offer pension programs follow certain rules if they want favorable tax treatment for the following:
The rules include offering vesting schedules that are at least as generous as those outlined by federal legislation.
In the field of benefits, there is a continuing trend toward legislation to protect employees' investment in their benefits. The allowance for states to pass their own laws affecting health care beginning in the late 1990s has led to ever increasing complexity for the multi-state employer. All point toward a greater role for the Internet.
Internet Based Benefits & Compensation Administration
Thomas J. Atchison
David W. Belcher
David J. Thomsen
ERI Economic Research Institute
Copyright © 2000 - 2013
Library of Congress Cataloging-in-Publication Data
HF5549.5.C67B45 1987 658.3'2 86-25494 ISBN 0-13-154790-9
Previously published under the title of Wage and Salary Administration.
The framework for this text was originally copyrighted in 1987, 1974, 1962, and 1955 by Prentice-Hall, Inc. All rights were acquired by ERI in 2000 via reverted rights from the Belcher Scholarship Foundation and Thomas Atchison.
All rights reserved. No part of this text may be reproduced for sale, in any form or by any means, without permission in writing from ERI Economic Research Institute. Students may download and print chapters, graphs, and case studies from this text via an Internet browser for their personal use.
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