The Regular Rate for Commissioned Employees: Lookbacks and “Earned” Commissions
In yesterday’s post, we discussed the basics of calculating the “regular rate” for non-exempt employees under the Fair Labor Standards Act (FLSA), including a reader question on how to handle commissions. Commissions are one of the forms of remuneration that you must include in a non-exempt employee’s regular rate. If all of the compensation, including any commission, is earned during the workweek before you run payroll, calculating the regular rate is easy. Often, though, employers do not pay commissions or bonuses at the same time they pay for the hours worked. Instead, employers often pay commissions or bonuses at some later date, like the end of a month, quarter, or year. Depending on exactly when these commissions or bonuses are “earned” under company policy (and any applicable state or local laws), you may need to run a lookback calculation to apportion these later earnings to their proper, earlier weeks.
The Simple Regular Rate Calculation
Let’s start with a simple example where employees earn the commission in the same workweek, and assume that you can calculate it. Employee Emma, who is non-exempt, earns $500 in hourly earnings, plus an additional $500 in commissions. During the week, she works a total of 50 hours (40 hours of straight time, 10 hours of overtime). This simple calculation works like this:
- Regular rate = $1,000 (total of wages + commission) / 50 hours = $20/hour
- Total compensation = total earnings from hourly wages and commissions + overtime
- Overtime = 10 hours at one-half the regular rate of pay
- Emma’s total pay = $1,000 + (10 hours x 0.5 x $20/hour) = $1,100
Here, the regular rate calculation works the same way as it would if Emma had simply earned $1,000 in hourly earnings during the week.
The Simple Commission Lookback Calculation
Of course, while this calculation might work for retail sales commissions, many industries’ salespeople earn commissions later when a product ships or when a customer pays, rather than at the time the employer receives the order. Assume that Employee Emma still earns a total of $1,000 during the first week of June, and she makes the sale that leads to a $500 commission during the same week. However, the customer has net 30 payment terms and does not pay the invoice until the end of the month. Therefore, you pay Emma the $500 commission on the next payroll cycle in the first week of July, a week when (owing to the holiday) she worked fewer than 40 hours. Do you owe Emma any overtime? You might!
Of course, at the time, you did not know whether or if your customer would pay for the order, so you paid Emma her hourly wages of $500 for 50 hours of work, plus $50 for overtime ($5 OT premium x 10 hours OT). Under these circumstances, absent any company policy explaining when a commission is “earned,” Emma would correctly argue that you must apportion the commission back to the workweek during which she earned it. Accordingly, when you pay Emma her commission in July, you must go back and include the additional $500 she earned in the regular rate calculation for the first week of June (when she “earned” the commission by making the sale). Since Emma worked 50 hours during this week, you must pay her additional overtime compensation. Obviously, you can recalculate her regular rate using the “Simple Regular Rate Calculation” above. However, you can also use a quicker mathematical shortcut.
Under the shortcut, you calculate the increase in regular rate by dividing the commission payment ($500 in our example) by the total hours worked during that week (50 hours). In our example, this increases Emma’s regular rate by $10/hour for that workweek. Accordingly, her recalculated regular rate is now $20/hour ($10/hour for her hourly wages, and another $10/hour because of her commissions). Incidentally, that’s the same number you would get if you plugged everything into the formula above. Since Emma worked 10 hours of overtime in the first week of June in our example, she would be due an additional $50 ($10 increase in regular rate x 0.5 x 10 overtime hours). Again, this is the same number you get by completely recalculating her earnings using the formula above. As long as you know the amount of the additional payment and the number of hours worked in the relevant week, you do not need to know what the employee’s original pay rate was at the time. Anytime your employee earns money later that can be apportioned to an earlier period, you must go back and run this calculation. You cannot simply apply the commission to the first week in July when you pay it, at least without taking some other steps.
Commissions are rarely as simple as my examples, though. What if Emma makes the sale in June, but the customer returns the product a few weeks later for a full refund? What if Emma earns a 1% commission in July, but based on her third quarter sales, your plan escalates the commission to 2% retroactively for all sales during the quarter? You could quickly find yourself recalculating your recalculations, both up and down. There is an easier way: specify in your commission plan exactly when commissions are considered “earned” by the employee: when a customer pays, when a product is delivered, when a return period expires, by a certain date (the end of a following month, or simply the date on which you pay commissions), or at some other reasonable and equitable time. Your plan cannot be used to shirk your overtime responsibilities, but you can use the policy to help avoid the need to constantly recalculate the regular rate using lookback calculations.
Upshot for Employers
Remember that the FLSA is very permissive when it comes to specifying when wages must be paid. As you will see from this table at the DOL, the vast majority of states maintain laws that specify when employers must pay wages (and sometimes commissions or bonuses specifically). When including commission or bonus clauses in employment agreements, policies, or commission plans, start with a logical business justification for your intended plan, consider what your employees expect and how they will respond, and then tweak the plan if necessary to limit the number and complexity of lookback calculations you need to conduct. Of course, any plan must comply with applicable state and local wage payment laws, too, something wage and hour counsel should help you ensure.