This summer, the Fifth Circuit Court of Appeals addressed an often used and hotly litigated compensation practice adopted by oil and gas companies—day rates. Commonly utilized in the energy sector, companies engage highly skilled workers (such as drilling or well consultants) through an independent contractor arrangement and pay a “day rate” for the services of those individuals—a predetermined amount paid based on each day worked, regardless of the number of hours actually worked. Recently, this day-rate compensation scheme has spawned legal challenges across the United States. Specifically, in these lawsuits, workers allege (i) they were incorrectly classified as independent contractors under the Fair Labor Standards Act (“FLSA”) and (ii) they are owed unpaid overtime compensation for hours worked over forty (40) per week.
In August 2019, the Fifth Circuit Court of Appeals (which covers Texas, Louisiana, and Mississippi) granted a “win” for employers adopting the day-rate compensation structure. Specifically, the Fifth Circuit in Faludi v. U.S. Shale Solutions, L.L.C. held a worker paid a day rate was exempt as a Highly Compensated Employee (“HCE”) under the FLSA, and, therefore, was not entitled to overtime compensation. Although the court’s holding in Faludi was limited to whether workers paid pursuant to a day-rate scheme are paid on a “salary basis” as required for the HCE exemption, the Faludi decision marks an important shift in wage and hour litigation facing the energy sector.
Wage and Hour Litigation Trends Affecting the Energy Sector
The FLSA is the federal law governing the payment of wages to employees and imposes a host of requirements on employers—namely, employers are required to pay employees overtime for any hours worked over forty (40) hours per week at a rate of 1.5 times the regular rate of pay. Issues that often arise for energy employers are (i) whether a worker is an employee or an independent contractor; and (ii) if the worker is an employee, whether the employee is exempt from the FLSA’s overtime requirement.
The classification of a worker as an independent contractor is a hotly litigated issue because only employees—not independent contractors—are afforded the protections granted under the FLSA. Similarly, whether an employee is exempt from the overtime requirements of the FLSA is frequently challenged. Under the FLSA, if an employee falls within one of the statutorily defined exemptions, the employee is not entitled to overtime compensation. The most common exemptions litigated for energy employers are the Executive, Administrative, and Professional exemptions—often referred to as the “White Collar Exemptions.” To qualify under the White Collar Exemptions, employers must show:
- the employee is paid on a salary basis at a rate of at least $684 per week, or $35,568 per year (referred to as the “Salary Test”); and
- the employee’s primary duties relate to the performance of executive, administrative, or professional tasks, as defined under the regulations (referred to as the “Primary Duties” test).
Because workers in the oil and gas sector often receive a high day rate (sometimes exceeding $1,000 per day) or otherwise receive high salaries, employers often invoke the HCE exemption in wage and hour lawsuits. Under the regulations, a highly compensated employee is exempt if:
- the employee earns at least $107,432 per year and the employee is compensated on a salary basis of at least $684 per week;
- the employee’s primary duties relate to office or non-manual work; and
- the employee customarily and regularly performs at least one of the exempt duties of an exempt Executive, Administrative, or Professional employee.
The HCE exemption can be helpful to employers in the oil and gas sector because the exemption loosens the Primary Duties Test applicable to the White Collar Exemptions. Specifically, to satisfy the Primary Duties Test, the employee’s primary duties must satisfy all of the requirements specifically outlined in the applicable regulation. Conversely, under the HCE exemption, a highly compensated employee may be exempt so long as the employee customarily or regularly performs at least one of the statutorily defined duties of an Executive, Administrative, or Professional employee, and these duties do not need to be the employee’s primary duties.
As more and more companies utilized day rates, however, one important question lingered—whether a worker who receives a predetermined rate of pay for each day worked satisfies the FLSA’s requirement that exempt employees must be compensated on a “salary basis.” According to the regulations:
An employee will be considered to be paid on a “salary basis”… if the employee regularly receives each pay period on a weekly, or less frequent basis, a predetermined amount constituting all or part of the employee’s compensation, which is not subject to reduction because of variations in the quality or quantity of the work performed… [A]n exempt employee must receive the full salary for any week in which the employee performs any work without regard to the number of days or hours worked. Exempt employees need not be paid for any work-week in which they perform no work.29 C.F.R. § 541.602(a).
On its face, the regulation permits compensation structures that pay employees a predetermined amount, regard-less of the number of hours actually worked. But, how is this regulation interpreted in the context of a day-rate scheme, where the worker’s compensation is calculated on a daily basis (not on a weekly, or less frequent basis as stated in the regulations), but receives a paycheck based on a day rate on a weekly, or less frequent basis? Additionally, what happens if the worker voluntarily reduces his or her compensation by charging the employer less than a full day rate when less than a full day is worked? On August 21, 2019, the Fifth Circuit provided some clarification.
Faludi v. U.S. Shale Solutions, L.L.C.
Jeff Faludi (“Faludi”) worked as a consultant for U.S. Shale Solutions, LLC (“U.S. Shale”) for approximately 16 months. U.S. Shale engaged Faludi’s services through an Independent Contractor Consulting Services Agreement, which provided that U.S. Shale would pay Faludi a rate of $1,000 per day for every day worked in Houston, Texas (and a rate of $1,350 per day for every day worked outside of Houston), regardless of the number of hours Faludi actually worked. Under this arrangement, Faludi was entitled to receive the full day rate, even if he worked one hour. The Agreement required Faludi to submit invoices to U.S. Shale twice a month. The Agreement also stated that Faludi was an independent contractor—not an employee—of U.S. Shale.
During the parties’ relationship, Faludi submitted invoices to U.S. Shale on a monthly or semi-monthly basis. Although the Agreement entitled Faludi to receive the full day rate regardless of the number of hours he actually worked, Faludi voluntarily billed the Company less than a full day when he worked less than a full day. The Company paid Faludi based on submitted invoices and never questioned why the invoices did not include the full day rate. Even with Faludi’s voluntary reductions, Faludi received at least $1,000 every week in which he worked and earned approximately $260,000 each year.
After Faludi stopped working for U.S. Shale in March 2016, Faludi filed a lawsuit against the Company arguing that he was owed unpaid overtime compensation under the FLSA. U.S. Shale responded that Faludi was not entitled to overtime compensation because (i) Faludi was not an employee, and, therefore, not covered under the FLSA; and (ii) even if Faludi was an employee, Faludi was not entitled to over-time compensation because he qualified for the HCE exemption under the FLSA. The trial court ultimately sided with U.S. Shale and held that, even if Faludi was an employee (not an inde-pendent contractor), Faludi qualified for the HCE exemption.
Faludi appealed the trial court’s decision to the Fifth Circuit. The appeal primarily turned on whether: (i) U.S. Shale’s day rate scheme satisfied the salary basis requirement to qualify for the HCE exemption; (ii) Faludi’s voluntary reductions of the full day rate for days in which he worked less than a full day destroyed the exemption status; and (iii) Faludi’s guaranteed weekly compensation was required to bear a reasonable relationship to the amount he actually earned each week.
In a 2-1 decision, the Fifth Circuit held the day rate Faludi received satisfied the salary basis test to qualify for the HCE exemption. Specifically, the majority held U.S. Shale’s compensation structure satisfied the salary basis requirement because Faludi received his compensation on a weekly or less than weekly basis, as required under the regulation. In so holding, the majority rejected Faludi’s argument that the compensation scheme violated the FLSA because U.S. Shale calculated his compensation more frequently than on a weekly basis. The court also held that Faludi’s voluntary deductions did not destroy the exemption status. The court emphasized that Faludi voluntarily reduced his day rate by charging U.S. Shale less than a full day rate when he worked less than a full day. Essentially, the court reasoned that to hold otherwise would allow employees to destroy their exemption unilaterally by intentionally reducing their pay.
Finally, the majority rejected Faludi’s argument that because his compensation was calculated on a daily basis the FLSA required there be a reasonable relationship between the guaranteed weekly amount and the amount actually earned. The court, however, held that the “reasonable relationship test” did not apply to the HCE exemption. Accordingly, the Fifth Circuit affirmed summary judgment in favor of U.S. Shale.
Takeaways and Insights
The Faludi decision represents a significant win for employers; however, employers should be careful in interpreting Faludi too broadly. The majority did not give a blanket endorsement of any and all day rate compensation structures. In particular, important to the majority’s decision was that Faludi was paid on a weekly or less than weekly basis in accordance with the FLSA (specifically, Faludi was paid twice a month). If U.S. Shale paid Faludi more frequently than on a weekly basis (e.g., twice a week), Faludi may have prevailed. Similarly, with respect to Faludi’s reductions to the full day rate, the court emphasized the fact that Faludi unilaterally and voluntarily reduced the day rate. Had U.S. Shale made the reductions, the court would have likely found that the compensation practice did not satisfy the salary basis requirement.
In any case, the Faludi decision is a good reminder for employers adopting a day rate compensation structure to document the compensation structure in writing. Critical to the decision in Faludi was that the parties agreed in writing that Faludi would receive a fixed rate of pay for each day worked, regardless of the number of hours actually worked. Additionally, employers should review their current pay rates to ensure the rates satisfy the new salary thresholds adopted by the Department of Labor, effective January 1, 2020. Specifically, the Department of Labor (“DOL”) increased the salary thresholds for the Executive, Administrative, and Professional exemptions from $455 per week (or $23,660 per year) to $684 per week (or $35,568 per year). Additionally, the DOL increased the salary threshold for the Highly Compensated Employee exemption from $100,000 to $107,432 per year.