An exempt employee is a worker in the United States who is excluded, or "exempt," from the minimum wage and overtime requirements of the Fair Labor Standards Act (FLSA). Exempt employees are normally paid a fixed salary that does not change with the number of hours worked, so a manager who works 50 hours one week and 38 the next receives the same pay. Workers who are covered by the overtime rules are called nonexempt employees and must receive at least one and a half times their regular rate for hours over 40 in a workweek.
The word "exempt" here has nothing to do with taxes. Exempt employees still have income tax withheld and still pay Social Security and Medicare, and their employers still owe employer payroll taxes on their pay. The classification matters for how payroll is calculated, how time is tracked and what the employer could owe if it gets the classification wrong.
The tests for exempt status
Under Department of Labor regulations at 29 CFR Part 541, most "white-collar" exemptions require an employee to meet three tests:
- The salary basis test requires a predetermined, fixed salary that is not reduced because of the quality or quantity of the work.
- The salary level test requires pay above a minimum threshold, which is $684 per week ($35,568 a year), the level set in 2019 that applies after a federal court set aside a 2024 increase.
- The duties test requires the job's primary duty to be executive, administrative or professional work of the kind the regulations describe, or to fall within other named categories such as certain computer and outside sales roles.
A job title alone does not decide the matter. An "office manager" who mainly answers phones and files papers is likely nonexempt even if paid a salary. Some states, including California, New York and Washington, set higher salary thresholds or stricter duties tests, and employers must follow whichever rule is more protective of the worker.
Payroll accounting for exempt staff
Exempt salaries are recorded as salaries expense in the period the work is done, under accrual accounting. If a month ends between paydays, the earned but unpaid portion is recorded as accrued payroll. For example, an exempt analyst earning $78,000 a year paid every two weeks receives gross pay of $3,000 per period, which is $78,000 divided by 26. If the month ends three working days into a ten-day pay period, the company accrues $900 of salary expense, plus the employer's share of payroll taxes on that amount.
From each paycheck the employer deducts federal and state withholding tax, the employee's share of Social Security and Medicare, and any voluntary deductions for health insurance or retirement plans, before paying the net amount through the regular payroll disbursement run. Because hours do not drive pay, many employers track exempt staff only for leave balances, though accurate records remain useful if a classification is ever challenged.
Misclassification risk
Treating a nonexempt worker as exempt is one of the most common and costly payroll errors. If the Department of Labor or a court finds misclassification, the employer may owe back overtime for up to two years, or three if the violation was willful, plus an equal amount as liquidated damages and legal fees. From an accounting angle, a probable and estimable claim must be recognized as a contingent liability. Employers can also lose exempt status for a whole group of workers by making improper deductions from salaries, such as docking pay for partial-day absences in situations the regulations do not allow. Classification as exempt is also separate from status as an employee rather than an independent contractor, and from whether a person is counted as a full-time employee for benefit purposes. The minimum wage protections of the FLSA likewise do not apply to properly exempt workers, although their salary threshold is far above it.