On May 19, 2009, the Sixth Circuit Court of Appeals found that the operator of health and fitness centers violated the salary basis requirements under the Fair Labor Standards Act (FLSA) when it deducted money from the base compensation of employees to reclaim previously paid bonuses. (Baden-Winterwood v. Life Time Fitness, 6th Cir., No. 07-4437, 5/19/09). Accordingly, the employer could not establish that the employees from whom money was deducted were exempt, salaried employees.

In its decision, the Court held that the salary basis test adopted by the U.S. Supreme Court in Auer v. Robbins, 519 U.S. 452, 117 S. Ct. 905, 137 L. Ed. 2d 79 (1997), should be applied to pay periods occurring before August 23, 2004, and the salary basis test stated in 29 C.F.R. § 541.603 should be applied to pay periods occurring after August 23, 2004. Under the Auer test, an employee is not paid on a salary basis, and thus loses exempt status, if (1) there is an actual practice of salary deductions or (2) an employee is compensated under a policy that clearly communicates a significant likelihood of deductions. In the revised Regulations, which became effective on August 23, 2004, the Department of Labor (DOL) noted that "[a]n actual practice of making improper deductions demonstrates that the employer did not intend to pay employees on a salary basis." 29 C.F.R. § 541.603(a). Under the Regulations, there is no violation of the salary basis requirements and, therefore, no loss of the exemption, unless there is an actual practice of improper deductions.

The Sixth Circuit held that the deductions made by the employer were improper because they were not made to recover irregular salary advances or payments mistakenly made by the payroll department. Rather, the company reduced guaranteed pay under a purposeful, incentive-driven bonus compensation plan, which is not allowed under the FLSA.

The Court held that the Auer test was applicable for the pay periods occurring before August 23, 2004. Because the employer’s pre-August 23, 2004, compensation plan did more than create a theoretical possibility of deduction, but instead laid out a policy under which Life Time Fitness would make future deductions, the Court held that the company was liable to those plaintiffs employed and subject to the compensation plan from January 1, 2004 through August 23, 2004.

The Court upheld the lower court’s application of § 541.603 to the pay periods following August 23, 2004, and affirmed the district court’s ruling that because improper deductions were only made during three pay periods in November and December 2005, only plaintiffs who worked in the appropriate job classification during those three pay periods (in which improper deductions were made) were entitled to overtime compensation.

The Baden-Winterwood decision is significant because the Court recognized that under the revised Regulations, only actual improper deductions will violate the salary basis requirements under the FLSA. Now, instead of employers focusing on whether their policies provide for the possibility of improper deductions from exempt employees’ salaries, they need only ensure that no improper deductions are actually made from exempt employees’ pay to jeopardize the exemption during each pay period.

This blog entry was authored by Jamie Kitces.