Start-ups and Overtime Compensation

Having represented both employees of start-ups and start-ups themselves in wage related claims, I have had a chance to see for myself what the reasons are that so many start-ups and other kinds of new companies get in trouble with the law, when it comes to overtime pay and misclassification of employees as contractors.

Consider the evolution of a typical start-up. A small group of bright, highly motivated and very hard working professionals gather and start working around the clock in order to build all aspects of their business, and to make their idea, which they hope will be at least in some ways revolutionary, come true as soon as possible. Just a few people are trying to handle every aspects of this newborn business - from basic logistics, such as renting a work space, buying furniture and office supplies, to company administration, accounting and marketing, among many other things. If their idea gets attention and they are good and lucky enough to raise capital, they will immediately start hiring people to move their business forward. Between hiring and working with new people, training, developing online presence, and working on launching their business full gear, the last thing these entrepreneurs have in mind is worrying about compliance with labor laws that they have never even heard of. Upon superficial study of how the wage laws work, they decide that classifying some of their employees, who work 12 or more hours a day every day, as exempt will be a good idea for at least three reasons: first, the owners don't need to worry about keeping track of the number of hours that these employees work; secondly, there is no incentive for those exempt employees to work more hours than than need to get the work done, since they will not be paid more regardless of how much they work, which is supposed to promote their efficiency; and 3. classifying employees as exempt will save that young company the funds that are so desperately needed at the start-up stage for so many other things.  

However, the legal point that these start-up managers are missing is that simply calling someone "exempt" doesn't make that employee exempt, unless they meet the criteria of an exempt employee under California law, based on their duties and their hourly rate. Calling someone a manager, doesn't make that employee a manager, unless his or her duties are in fact managerial under the law. Many low-level accountants, office administrators and HR personnel are classified as exempt by these new companies, when in fact these employees are almost never exempt under California law, because their duties are not related to managing the company, and they do not exercise significant independent judgement and discretion in company's operations.   

So, how do these legal problems with overtime pay for these companies start? Here are two of the most common situations:
 
1. As the company grows to a hundred or more employees, one of the curious employees, who has been classified as exempt, but who believes that he should be entitled to overtime, approaches a class action lawyer, who then encourages him and a number of other employees to bring a class action lawsuit against the company for failure to pay overtime. That lawyer would only need three or so claimants to represent a class of many other employees in order to file a class action.  

2. Another common situation is where a disgruntled employee who is being fired and who believes he has been wrongfully terminated goes to a lawyer, and that lawyer determines that regardless of whether the employee has a wrongful termination case, he has an overtime claim. That individual claim is filed, and then other employees file their own claims after finding out about that first claim.   

So, how much can the company be potentially liable for in these overtime cases?  

Lets take an average situation as an example, which is likely to happen and which has happened many times before in California. After 5 years of operating, the company has 50 employees who are improperly classified as exempt. They are paid $40,000 year but work on average 60 hours a week. All of the employees have been working for the company for more than 3 years. They decide to bring a class action claim against the employer.  
The employer's liability in that case, excluding any penalties and attorneys fees, can be calculated as follows:  
each employee can go back as far as three years (and in some cases four years) in claiming unpaid overtime.  
Those employees' hourly rate is $20/hour based on the above annual salary. This means that for every week they worked 20 hours over their 40 hour schedule, they are entitled to their overtime hourly rate of $30/hour times 20 hours which equals to $600 per week in unpaid overtime. If those employees worked on average 50 weeks a year then, 50 times 3 years equals 150 weeks times $600 equals $90,000.00 per employee per three years. This means that the company's total liability to all the fifty employees will be $90k times 50 equals $4.5 million. This amount doesn't include legal fees, penalties, interest which can add up to another million or more, and above all - the distraction that this kind of process will cause to the company's management and its operations.   

The above headaches and liability are relatively easy to avoid, if the company decides to complay with overtime laws from the very beginning and only classify those employees as exempt, whose duties actually make them fall into that category. Consult a knowledgeable employment attorney and reviewing compensation practices before any legal issues arise is a much better and a much cheaper option than disregarding the rules or not bothering to find out what these rules are, because history shows that sooner or later every company that doesn't comply with wage and hour laws and overtime pay laws gets hit with a class action, which ends up costing the company millions of dollars.

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