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Oct 2004
01
October 01, 2004

Human Resources Alert - Fall 2004

Topics included in this issue:



 

SHOTGUNS, RIFLES AND OFCCP AUDITS

By Robert J. Chovanec

Despite the timing, this article is not about the annual migration of city folks to the woods known as the "hunting season." It is, however, about hunting. The federal Office of Contract Compliance Programs ("OFCCP") enforces federal government contractor affirmative action plan requirements under Executive Order 11246. Since the 1980s, OFCCP has been referring individual discrimination issues to the EEOC, and has dedicated itself to finding and eradicating discrimination against women and/or minorities in recruiting, promotion and compensation systems. This is, by the way, the same area in which private "class action" lawsuits (such as the massive lawsuit against Wal-Mart) have become much more common.

Until this year, the OFCCP selected "establishments" for audit each fiscal year (October 1 through September 30) from its "Equal Employment Data System" ("EEDS"). The EEDS was based on a computerized list of employers who confirm that they're covered "government contractors" on Form EEO-1. Although all employers who have 50 employees and a government contract of $50,000 or more (and almost all banks) are required to have affirmative action plans, only "prime contractors" and "first-tier subcontractors" are required to self-identify on Form EEO-1.

The EEDS selected "audit targets" by comparing an establishment's percentages of women and minorities (as disclosed in the Form EEO-1) to industry averages, and by applying other factors that varied from time to time. In recent years, the OFCCP has taken a "shotgun" approach to audits, by selecting many audit targets, conducting many "desk audits," and using the desk audits to select about 20% of the audited establishments for a more in-depth "on-site review."

This year, everything has changed. The OFCCP was not satisfied that it was finding the "systemic discrimination" that it believes is present in the contractor community, so it made three major changes in its policies and practices. Together, these changes amount to a change from the historical "shotgun" approach to a much more narrow, targeted audit system.

First, the OFCCP has scrapped the EEDS and implemented a new "Federal Contractor Selection System" ("FCSS"). The new system is still based on Form EEO-1 disclosure of covered status, but it compares establishments using not only industry comparative data but also "labor market" data. The FCSS also weights data about managers and other higher-paid job groups more heavily in selecting audit targets. Other factors are also used–not all of which have been disclosed by the OFCCP–but, as discussed below, one of them is undoubtedly "size of the establishment."

Second, the OFCCP has selected 3,560 establishments for audit using the new FCSS. It has selected establishments that have "statistical profiles" similar to those at which OFCCP has found systemic discrimination in the past. OFCCP's goal is to audit these establishments at an "80% site visit" rate, as opposed to the old "20% site visit" rate. The OFCCP has already sent "scheduling letters" to about 600 of these establishments. It plans to send "warning letters" to the rest of the group, notifying them that they are likely to be audited this year (in fact, many of them probably won't be audited this year, and it appears that the OFCCP plans to run the analysis again next year, rather than relying on this year's FCSS data).

Third, OFCCP has substantially changed its audit process and staffing. Audits will now be supervised from the OFCCP Regional Offices. The OFCCP has decided to hire at least one PhD statistician at each region, and has already hired some of them. It has also decided to involve attorneys from the Department of Labor Solicitor's Office in the audit process. In short, audits this year will be much more likely to result in claims of discrimination than in the past—in fact, that's its goal. The OFCCP plans to focus a lot of attention and statistical analysis on selected audit targets. That's one reason that very small establishments are probably less likely to be audited this year: smaller establishments may not have job groups large enough to allow valid statistical analysis that will stand up in litigation.

Not all of the 600/3,560 lucky establishments will be selected for intensive review. The OFCCP will take a "first look" at the hiring, promotion and compensation data provided by the contractor in response to the "scheduling letter." While that data is inadequate for an in-depth statistical review, OFCCP will use it to further narrow its "target group." If an establishment's audit is not closed based on the initial information, the contractor will likely face a long process of investigation and sophisticated statistical analysis of its hiring, promotion and compensation practices and results, followed by an on-site visit and, if OFCCP gets the results it hopes for, claims of systemic discrimination based on the statistical analysis.

The reelection of President Bush is unlikely to affect the OFCCP's new initiatives this fiscal year, although it may result in promotion of its principal architect, OFCCP Director Charles James, to a higher position in the administration. Additional information regarding the FCSS can be found at www.dol.gov/esa/regs/compliance/ofccp/faqs/fcssfaqs.htm.

If you receive an OFCCP scheduling letter or a warning letter, call counsel. Whether you receive a letter this year or not, you should focus on your hiring, promotion, and compensation systems. Larger employers should consider undertaking privileged statistical analysis to determine whether there are indications of potential legal problems in these systems. The value of such analysis is not limited to government contractors. As noted above, it's these same areas in which discrimination class actions are exploding.

 

WHAT SHOULD I BE DOING TO PREPARE FOR THE SECURITY RULES?

By Norbert F. Kugele

A number of us are still trying to catch our breath from our efforts to comply with the HIPAA privacy rules, but between breaths we have to start thinking about the next major compliance goal: security. If you sponsor a large health plan (one that paid claims and/or premiums of at least $5 million in your last fiscal year), you will need to comply with the security rules by April 20, 2005. If you sponsor a small health plan (with claims and/or premiums of less than $5 million), you will have until April 20, 2006, to comply.

Unlike the privacy rules, which apply to protected health information ("PHI") in all forms, the security rules apply to only electronic forms of PHI. Another important difference from the privacy rules is that the security rules do not have an exception for health plans that offer only fully insured benefits. Thus, if you have PHI on your computer system, you must comply with the security rules.

The rules set forth security goals that your system must meet, but leave it up to you to determine how best to achieve those goals. This gives you a great deal of flexibility in how to implement the security rules, but also means that there is no standard solution that applies to everyone. Here are some steps you may want to follow as you work to comply with the security rules:

  • Appoint a security officer who is ultimately responsible for your compliance with the security rules.

     
  • Form a committee that includes individuals with detailed knowledge of your computer system and of your operations that involve PHI.

     
  • Evaluate the PHI on your computer system (e.g., where PHI is stored, where it is transmitted, who has access and for what purpose, etc.).

     
  • Identify any business associates who may have your PHI on their computer systems, and make sure that you have a business associate agreement in place that requires them to implement appropriate security measures on their systems.

     
  • Evaluate your current security measures to determine the gaps between what you have in place and what the security rules require, and how best to implement the security requirements for your system.

     
  • Conduct a risk analysis of your system, identifying the vulnerabilities in the system and the consequences if the security, integrity or access to your system is compromised.

     
  • Formulate a compliance plan, identifying which risks will be addressed immediately, which risks will be addressed in the future, and which risks you will tolerate.

     
  • Update your security policies and procedures to reflect the decisions you have made on how you will implement the security standards.

     
  • Begin implementing the changes you will be making to your system.

     
  • Train your employees on your updated security policies and procedures.

If you have any questions about the HIPAA security rules, or any other HIPAA issues, please call a member of the Employee Benefits Group.


 

THE EMPLOYER GIVETH AND THE
EMPLOYER TAKETH AWAY:
PERMITTED DEDUCTIONS AND SAFE-HARBOR
PROTECTIONS UNDER THE
NEW WHITE-COLLAR REGULATIONS

By Louis C. Rabaut and Robert A. Dubault

The Department of Labor's ("DOL") revision to the regulations defining the "white-collar" exemptions to the Fair Labor Standards Act's minimum wage and overtime requirements went into effect on August 23, 2004. The new regulations did not materially modify the "duties" tests for the various white-collar exemptions. They did, however, significantly increase the salary level an employee must be paid (raising it to $455/week) before an employee may be classified as "exempt." The new regulations also clarified several aspects of the "salary basis" test for exempt employees and created a safe harbor for employers seeking to avoid or limit liability for certain impermissible deductions.

The Salary Basis Test and the "No Docking" Rules

The "salary basis" test essentially requires that an exempt employee be paid a predetermined amount of compensation each pay period on a weekly or less frequent basis, if that employee performed any work. That predetermined amount generally cannot be reduced due to variations in the quality or quantity of the employee's work. Thus, deductions cannot be made if the employee is ready, willing and able to work but work is not available because, for example, the employer decides to close down due to such things as weather, a shipment that did not arrive on time, or to observe holidays. Of course, if the employee performs no work for the employer during a given workweek, the employee need not be paid for that week. An employer who makes an impermissible deduction may destroy the exemption and incur significant overtime liability.

Every rule has its exceptions and the white-collar regulations are no different. There are seven exceptions to the salary-basis requirement that allow an employer to make deductions without destroying an employee's exempt status.

  1. When an employee is absent from work for one or more full days due to personal reasons other than sickness or disability. This includes such things as taking a day off to attend a child's school functions or taking three days off to attend an out-of-town funeral. Keep in mind, however, that deductions may not be taken for partial-day absences.

     
  2. When an employee is absent from work for one or more full days due to sickness or disability, if the deduction is made in accordance with a bona fide plan, policy or practice of compensating employees for lost time. Such plans, policies or practices include short-term disability policies, sick day programs, and coverage under workers' compensation laws. Full-day deductions can be made even though the employee has not yet become eligible for benefits under the plan, policy or practice, as well as after the employee has exhausted all available benefits.

     
  3. Deductions can be made to offset amounts the employee receives for jury or witness fees or military pay. Keep in mind that if the employee is absent for a full workweek due to jury duty or military leave, the employer has no obligation to pay him at all for that workweek.

     
  4. Deductions can be made for unpaid disciplinary suspension of one or more full workdays imposed in good faith for violating written workplace conduct rules.

     
  5. Deductions can be made for penalties imposed in good faith for infractions of safety rules of major significance. Unlike deductions for violating workplace conduct rules, these "penalties" need not involve full-day suspensions or, for that matter, any time off at all. The employer can simply dock the employee's salary by what it believes is an appropriate amount.

     
  6. Employers may prorate an exempt employee's salary in the first and last week of employment if the employee works only a partial week.

     
  7. Deductions can be made for any unpaid leave under the Family and Medical Leave Act.

In addition to these permissible deductions, the DOL has clarified that employers do not violate the "no deduction" rules by docking an employee's paid time banks (e.g., vacation, sick time, personal leave, or PTO time) for time off—even if the time off is less than one full workday. In essence, the DOL is concerned more with the fact that the employee receive a full paycheck than at how that paycheck is arrived. Keep in mind, however, that once the employee has used up all available paid time off, no deductions can be taken for partial-day absences. If the employee continues to abuse the system and take time off, it is best dealt with through the counseling and discipline process.

Safe Harbors

What happens if someone in your organization makes an improper deduction from an exempt employee's pay? Under the old rules, such a mistake—even if isolated—could result in massive liability for unpaid overtime. Under the new rules, however, the DOL will focus on whether there is an "actual practice" of making improper deductions before finding that an employee or group of employees is no longer exempt. If an actual practice of improper deductions is found, the employer will lose the exemption for all employees in the same job classifications and reporting to the same managers as those affected by the deductions and only for the time period during which the improper deductions were made. This liability is significantly less than under the old rules, where the employer could lose the exemption for all employees in the same job classifications for up to two (2) years.

Factors considered by the DOL in finding a "practice" are the number of improper deductions, the length of time over which the improper deductions were taken, the number of employees affected and their location, and whether the employer has a clearly communicated policy permitting or prohibiting such deductions. Isolated or inadvertent improper deductions will not result in the employee's becoming nonexempt if the employer promptly reimburses the employee. The regulations indicate that, even if a practice of improper deductions is found, the employer will not lose the exemption if it (a) has a clearly communicated policy prohibiting improper deductions along with a complaint procedure, (b) reimburses the affected employees for the improper deductions, and (c) gives assurances that it will comply in the future. Obviously, an employer who continues to make improper deductions after receiving employee complaints cannot avail itself of the DOL's safe-harbor provisions.

So What Should You Do?

Begin by reviewing your written policies and disciplinary procedures, and your employee handbook. Work rules and/or standards of conduct which, if violated, could result in unpaid time off should be put in writing and communicated to employees. This would include your antiharassment policy, policies regarding workplace violence or inappropriate conduct, and your e-mail and/or Internet usage policies. Likewise, if you have a sick-day or short-term disability policy, make sure it's communicated to your employees. You also may want to revise your vacation or other paid time-off policies to state that deductions may be made from those time-off accounts for partial-day absences.

Finally, to best position yourself to take advantage of the safe-harbor provisions, include something in your handbook (perhaps in the section dealing with employee classifications) which provides that exempt employees are paid a fixed salary per week, which is not subject to reduction based on the quality or quantity of work performed. Also provide employees with a complaint or reporting mechanism if they believe an improper deduction has been made from their pay.


 

SWEEPING CHANGES IN
EXECUTIVE COMPENSATION RULES

By George L. Whitfield

The American Jobs Creation Act of 2004, passed October 11 and pending Presidential signature, includes provisions that will dramatically impact existing and future nonqualified deferred compensation plans and other executive compensation arrangements. With some exceptions, the new law applies to "any plan that provides for the deferral of compensation. . . ." While there are uncertainties in existing law, including differences between IRS ruling guidance and case law, Code § 409A, added by AJCA 2004, provides new constructive receipt rules that override more than 40 years of relatively settled tax treatment of nonqualified deferred compensation and other executive compensation arrangements. Furthermore, the new rules are almost immediately effective on January 1, 2005, leaving the Treasury and IRS with an urgent task of providing needed guidance and leaving employers with very little time to assess the impact on existing plans and arrangements. An Employee Benefits Alert on this topic is available at www.wnj.com. This article provides a slightly more expansive overview of the new rules and their potential consequences. These new rules apply not only to employer plans, but to deferral arrangements in employment and independent contractor agreements as well.

Covered Plans and Arrangements

Section 409A, with the exceptions noted below, applies to "nonqualified deferred compensation plans," broadly defined as any plan that provides for the deferral of compensation, including any agreement or arrangement that includes only one person. The new rules are not limited to the employer-employee relationship but apply to deferred compensation arrangements with nonemployee agents and independent contractors as well. The rules are not limited to corporations, but also apply to partnerships, proprietorships, LLCs, LLPs and any other form of entity. The rules apply to both profit and nonprofit organizations.

As indicated in the following list, plans that are fully or partially funded by employer credits, and therefore wholly or partly do not involve participant elections to defer compensation, are nevertheless covered. Application of the new rules to employer-funded credits will be determined primarily by regulations. For purposes of the new rules, deferred compensation includes both actual and nominal income attributable to the amounts deferred and to previously accumulated income.

In general, qualified retirement plans; bona fide vacation, sick leave, compensatory, disability and death benefit plans; market value options and employee stock purchase plans are exempted. Annual bonuses and other annual compensation amounts paid within 2 1/2 months after the close of the year in which the relevant services were performed are also excluded. Pending guidance, the following is a tentative list of plans subject to the new rules and those excluded:

Plans Subject to Rules

Plans Excluded From Rules

Individual account NQDC plans

Eligible deferred compensation plans under § 456(b)

Employment and contractor agreements

Governmental excess benefit arrangements

Individual deferred compensation agreements

Vacation leave plans

Deferral plans for directors

Sick leave plans

SERPs and other nonelective plans

Compensatory time plans

Golden Parachute arrangements

Disability pay plans

Bonus and incentive deferral arrangements

Death benefit plans

Severance plans

Fair market value stock options

Stock appreciation rights

Qualified incentive stock options

Membership appreciation rights

Stock purchase plans under § 423

Phantom stock
Restricted stock
Restricted stock units

Annual bonuses and other amounts paid within 2 1/2 months after end of taxable year based on services during the year

401(k) mirror plans

 

§ 457(f) plans

 

Discounted stock options

 



New Requirements

Here is a summary of the principal features of the new law:

  • Timing of Deferral Elections: Generally, for plans that allow or require participant elective deferrals, compensation for services during a taxable year may be deferred only if the election is made by the close of the preceding taxable year. New participants during a year may have a 30-day period in which to elect deferral of compensation based on services to be performed after the election. Performance-based compensation with a performance period of 12 months or more may be made as late as six months prior to the end of the performance period if the compensation is variable and contingent upon preestablished performance standards adopted no later than 90 days into the service period and is not reasonably ascertainable at the time of the election. This rule will provide greater flexibility for many annual and long-term bonus and incentive plans. Regulations will provide guidance when the taxable year of the participant and the fiscal year of the employer are different.

     
  • Distribution Restrictions: Distribution events are generally limited to separation from service, disability (narrowly defined), death, or an unforeseeable emergency (not just hardships), or to a specified date or schedule determined at the time of deferral. Distributions based on other events (e.g., commencement of college) rather than a specific date or schedule will not be permitted. Distributions on a change in control will be permitted under regulations. A special rule applies to key employees of publicly traded corporations, generally prohibiting distribution earlier than six months after the date of separation from service or, if earlier, intervening death.

    For an unforeseeable emergency, the distribution must be limited to the amount needed to meet the emergency, plus reasonably anticipated taxes, and must be reduced to the extent the hardship may be relieved by insurance or by liquidation of the participant's assets without exacerbating the hardship.

    In all cases, the time and form of distribution must be specified at the time of initial deferral. Multiple distribution events are allowed and some or all either may be specified by the terms of the plan or elected by the participant. A different time or form of payment may be elected for each distribution event. For example, a distribution schedule may be elected upon retirement and a lump-sum payment may be elected in the event of death.

    As noted, distributions are permitted upon a specified time or pursuant to a fixed schedule elected at the time of deferral. They are not permitted upon the occurrence of events other than those underlined above, as in the example of when a child begins college.

    Generally, no acceleration of the time of payment or of any payment within a fixed payment schedule is allowed. A de minimis rule allowing automatic payment of amounts less than $10,000 is suggested in the conference report.

    A plan may allow multiple redeferral elections to change the time of payment or the form of payment, as long as there is no acceleration. A redeferral election cannot be effective for at least 12 months after the date on which it is made and cannot be made less than 12 months prior to the date of the first scheduled payment applicable before the redeferral. For redeferral elections with respect to payments based on separation from service or upon a specified time or schedule, or on a change in ownership or control of a corporation, the first payment date under the redeferral election must be not less than five years after the date that otherwise would apply. Again, no acceleration of any payment is permitted.

    The prohibition against acceleration means that so-called "haircut" distributions, in which the participant can elect immediate payment of a discounted amount, are now prohibited.

     
  • Trigger Funding: Under the new rules, funding a rabbi trust (a springing rabbi trust) or any other funding trigger or restriction or elimination of a substantial risk of forfeiture that is based on change in the employer's financial health is not permitted.

     
  • Use of Trusts: Domestic rabbi trusts remain permissible, but offshore trusts are generally prohibited.

     
  • Investments: Although proposed, there are no changes to existing rules on investment directions.

     
  • Reporting and Withholding: New withholding and reporting rules will apply.

Effective Date

The new rules apply to deferrals made after December 31, 2004. Deferrals prior to January 1, 2005, are not affected unless the plan or arrangement is "materially modified" after October 3, 2004.

For purposes of the effective date, an amount is considered deferred before January 1, 2005, if the amount is both earned and vested before that date. Therefore, previously deferred amounts that remain subject to a vesting schedule or another substantial risk of forfeiture as of December 31, 2004, will be subject to the new rules because they will not be considered vested as of December 31, 2004.

Existing Plans

As noted, pre-effective date deferrals under an existing plan or arrangement will not be subject to the new rules unless there is a material modification after October 3, 2004. For this purpose, material modification is defined as the addition of any benefit, right or feature. The exercise of an existing benefit, right or feature is not a material modification. Addition of a haircut distribution provision or acceleration of vesting are examples of material modifications. Removing a haircut provision or changing the plan administrator are examples in the conference report of actions that would not be a material modification. If there is a material modification to an existing plan at any future time, the entire plan and all deferrals under it are subject to the new rules.

Both the statutory language and the conference report emphasize that the new rules supplement existing law and that there is to be no inference that pre-effective date deferrals are permissible under existing law. The IRS is admonished to challenge pre-effective date deferral arrangements that do not comply with present law. The new rules do not prevent earlier taxation of defective deferrals under current law.

The Treasury Department and the Internal Revenue Service are authorized and directed to issue regulations and other guidance, some as soon as 60 days, addressing transition issues with respect to existing plans and providing a limited window for amending or canceling future deferrals under existing plans. Additional guidance is also compelled.

Consequences of Noncompliance

Failure to satisfy the new rules in form or in operation will have severe tax consequences. These consequences are imposed on the participants and not on the employer. Each affected executive will be taxed in the year of failure on all amounts deferred in the current and prior years plus actual or nominal earnings and will pay both interest from the date of deferral (or later vesting) and an additional penalty tax equal to 20% of the amount included in income.

Action Steps

While we don't know yet whether plan changes will be required by December 31, 2004, it is imperative for all employers to review the impact of the new rules on their existing plans and arrangements now. We urge you to contact your WN&J attorney for direct assistance or referral to one of our Executive Compensation specialists. We will work with you to begin the process by identifying all affected plans and arrangements and determining all of the changes that will be required.

 

FIVE WAYS TO CONTROL
WORKERS' COMPENSATION COSTS

By Gerardyne M. Drozdowski

Rising premiums are not limited to health care insurance. Workers' compensation premiums are rising almost as fast and represent a significant cost to almost every organization. Unlike health care insurance, employers cannot reduce workers' compensation coverage or pass premium increases on to employees. Nevertheless, there are some steps that every employer should consider if it wishes to better control its workers' compensation costs. Here are five simple suggestions:

  1. Transitional and Modified Duty. Implement a temporary or transitional return-to-work program for employees who are injured on the job and released to return to work with restrictions. Bringing an injured employee back to work as quickly as possible offers a long list of advantages for both the worker and the employer with very few drawbacks. Identify light-duty office jobs and any sedentary positions that individuals with restrictions might perform on a short-term basis. If necessary, tailor the duties to meet the individual's medical parameters. Every situation should be assessed on a case-by-case basis, but with only the rarest of exceptions, returning a workers' compensation claimant to light-duty work yields long-term financial rewards.

     
  2. Compare Prices. Michigan allows for competitive pricing of workers' compensation coverage. Obtain bids from several of the many insurance companies that write workers' compensation coverage in Michigan. Consider the cost of the premiums, the services offered by the carrier, the carrier's familiarity with Michigan law, and options such as a high deductible policy.

     
  3. Develop a Relationship With Your Health Care Provider. In Michigan, an employer controls medical treatment for the first ten (10) days following a workplace injury. Providing high-quality medical care is not only the right thing to do, it makes financial sense. Identify an occupational medicine provider who is competent, who understands the physical and environmental requirements of all your jobs, and who shares your philosophy on managing workplace injuries. Invite the physician to tour your facility and observe your employees in action. This direct contact helps eliminate misunderstandings when treating an employee or returning the individual to restricted work. Additionally, if the employer already provides top-notch medical treatment, the employee has less motivation to switch doctors after the initial ten-day period.

     
  4. Encourage Prompt Reporting. Prompt reporting of a workplace injury helps the employer to conduct a thorough investigation of the incident and implement timely corrective measures to prevent future injuries. Linking supervisor bonuses or department rewards to "no reported accidents" may result in delays or failure to report workplace accidents. Publish and enforce your policy for prompt reporting of workplace injuries. Quickly remedy any risks that the accident investigation uncovers.

     
  5. Lead by Example. Demonstrate that safety starts at the top. A safety program that remains filed away in the Human Resources office benefits no one. Involve workers in designing, implementing, and continually refining safety policies. Embrace and evaluate all safety suggestions. Design a team approach involving supervisors and upper managements along with employees working on the shop floor.

These are just a few of the many ways employers can help reduce and manage their workers' compensation costs and improve workplace safety. By implementing some or all of them, your organization can reap rewards both in terms of financial savings and in terms of increased productivity and morale.

* * * * *

Human Resources Alert is published by Warner Norcross & Judd to inform clients and friends of new developments. It is not intended as legal advice. If you need additional information on the topics in this issue, please contact your Warner Norcross attorney or any member of the firm's Human Resources Law Group.
 

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