Determining When a Commission is "Earned" When Calculating the Regular Rate
June 09, 2015
In our last post, we discussed the calculation of the “regular rate” and some of the complexities of determining what constitutes “remuneration” under the Fair Labor Standards Act (FLSA). Commission is one of the additional forms of compensation that you must include in a non-exempt employee’s regular rate. Such a calculation is relatively straightforward if all remuneration is paid in the same week as it was earned. What can make this calculation difficult, though, is when the employee earns cash or non-cash remuneration after the workweek ends. Often, employers do not pay commissions or bonuses in the same week as hours worked, but instead at some later date—at the end of a month, a quarter, or a year. Determining the impact of these later earnings on the regular rate may require a look-back calculation to apportion these earnings to their proper, earlier weeks. We’ve discussed how to do this calculation for bonuses before, but let’s take a look at commissions, which can and often do require a slightly different calculation, or at least some additional planning.
Let’s start with a simple example. Assume that your employee, Emma, earns $500 in hourly earnings this week, plus an additional $500 in commissions. She earns this compensation for working 50 hours in a single workweek. The formula is as follows:
- Regular rate = $1,000 (wages + commission) / 50 hours = $20/hour
- Total compensation = earnings from hourly wages and commissions + overtime
- Overtime = 10 hours at one-half the regular rate of pay
- Emma’s total pay = $1,500 + (10 hours x 0.5 x $20/hour) = $1,600
Now, let’s change it up. Emma still earns a total of $1,000 during the first week of June, as she makes the sale that leads to her commission during the same week. However, assume you paid Emma the $500 commission after the month ended on the next payroll cycle in the first week of July, a week when she worked fewer than 40 hours. Do you owe Emma any overtime? You might!
Under these circumstances, Emma would correctly argue that you must apportion the commission back to the workweek during which she earned it. Not knowing the amount of the apportioned commission during the first week of June when Emma’s wages were due, you paid her hourly wages of $550 for 50 hours of work ($10.00 x 50 hours + $5.00 x 10 hours).
However, when her commission is paid in July, you must go back and include the additional $500 earned and apportion it for the overtime she worked that first week of June. This means that you must pay Emma additional overtime compensation. You can go back and completely recalculate her regular rate using the formula above, or you can use a quicker mathematical shortcut. Using this easier way to determine the overtime owed, 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 for that overtime workweek—the same number you would get using 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 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, without doing more.
Strategies for More Complex Commission Events
What if Emma makes the sale in June, but the customer does not actually pay until July? What if the customer purchases and pays in the first week of June, but returns the product a few weeks later for a full refund? You could find yourself running adjustments in two directions and even going back and recalculating your calculations…unless your policy or commission plan make it clear when wages are “earned.” Specify 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 (end of a following month, or simply the date on which you pay commissions), or at some other reasonable and equitable time. Developing a policy that more carefully controls when and how employees earn commissions can help you avoid confusing and unnecessary look-back calculations.
Of course, aside from the business and employee relations aspects of your decision, various state laws will impact what you can lawfully do with commission plans. Most state laws, like the FLSA, include commissions among the definition of “wages” subject to the statutory requirements. Some of these state and local laws specify when commissions must be paid and what, if any, obligation exists to pay commissions on termination, among other topics. When including commission or bonus clauses in employment agreements, policies, or commission plans, start with a logical business justification, consider employee relations/ expectations aspects, and then tweak the plan if necessary to ensure fewer calculation headaches and that you have complied with necessary state and local wage payments laws.