"[T]he dirty little secret among employers and HR departments is that classifying employees as exempt—even if it means breaking the law—is in their best interest provided, of course, that they don't get caught." It's an observation that goes unsaid most of the time, but a recent article on cio.com airs that dirty laundry just a bit. (Meredith Levinson, Fair Labor Standards Act: Six Things Tech Workers Need to Know (August 11, 2008) www.cio.com.)
The article quotes Jahan Sagafi, a partner with Lieff Cabraser Heimann & Bernstein, who explains the strong incentive for employers to misclassify workers. Observing that (1) governmental enforcement entities have little ability to heavily enforce wage & hour laws, and (2) employers can profit by breaking the law, even when caught, Sagafi concludes that wage & hour violations are inevitable. The profit incentive is worth a few addition comments.
One counter-argument to the profit incentive is that employers will lose any profit in litigation costs and wage payments. There are several reasons why this couter-argument does not supply a sound basis for discounting the strong incentive on employers to cross the line in wage & hour practices.
First, small employers and very large employers have different incentive sets that may very well result in the same behavior, a fact that we can at least anecdotally observe. Large employers can essentially cheat with enough employees that, even if ultimately caught and sued, the settlement of the suit, combined with the costs of litigation, can still be much lower that the unpaid wages at the 100% level. In this instance, cheating on wage & hour compliance is actually a rational course of conduct; it is a profit center as compard to conservative, fully legal conduct.
Small employers, on the other hand, could face a scenario where the costs of litigation eradicate any savings from wage & hour compliance cheating. Nevertheless, a rationally acting small employer would be aware that enforcement occurs far less than 100% of the time. Thus, the expected value of wage & hour cheating remains positive unless, in varying degrees, the following is true: (1) the chance of getting caught approaches 100%, (2) the payment in litigation approaches the full amount of unpaid wages owed, and (3) the cost of litigation plus the compromised amount of unpaid wages is higher than the full amount of wages owed.
Small employers face an addtional incentive to cheat that is often attenuated in large employers - the greater difficulty in maintaining operating capital. Thus, small employers may avoid full wage & hour compliance partly out of necessity. Growing organizations often operate on the edge of the financial cliff. A misclassified group of employees could be difference success and failure. To be clear, I don't defend wage & hour violations as a means of sustaining an employer in tough times. Rather, I think that there is a troubling lack of honesty about the fact that, so long as it is profitable, employers will not fully comply with wage & hour laws.
The next time you hear that plaintiffs' lawyers are to blame for wage & hour class actions, consider the possibility that employers ought to shoulder a significant portion of the blame.