Third Circuit OK’s Carrot-Stick PTO Driven Pay System

Originally Published on 5/30/24by Prof. Robert Bloink and Prof. William H. Byrnes

In today’s evolving labor market, business owners often search for unique ways to motivate employees to perform at high levels through the use of benefit-linked incentive structures. While performance-linked incentives are certainly nothing new, some employers have developed systems where employees who fail to satisfy certain performance standards will experience benefit reductions tied to those failures. One of these demerit systems was recently challenged via allegations that the system violated the Fair Labor Standards Act (FLSA) overtime rules by converting a salary-based employee to an hourly employee. The Third Circuit Court of Appeals has provided guidance on one specific type of arrangement by clarifying that paid time off (PTO) is not part of an employee’s salary for FLSA purposes—but employers should tread cautiously and pay close attention to the details to avoid running afoul of the FLSA rules.

Higgins v. Bayada: The Facts

As a general matter, under the FLSA, employers must pay overtime wages to employees who work more than 40 hours per week if their income does not exceed certain thresholds (which will increase from $684 per week to $844 per week on July 1). Exceptions exist based on job duties and for employees who are paid a set amount regardless of the quantity or quality of the work they perform (i.e., salary-based employees).