Executive Summary: With the national and international economies experiencing a downturn, companies are reacting. Their goals are to maintain productivity, decrease labor costs and plan for tough times ahead. However, each decision has implications, because employees are protected by contracts, federal and state statutes and by judges. By knowing these rights and the company’s obligations, companies can take cost-cutting measures while protecting their companies from suit and managing the risks.

Executives, including human resource executives, are seeking information about how to conduct reductions-inforce, furlough employees and decrease labor costs without violating federal and state laws. A decision made without understanding the federal and state laws can lead to potentially significant monetary liability. One decision by an executive to terminate one employee working in a company may lead to the following monetary liability for discrimination:  

  1. Back pay equaling the amount of wages and benefits the employee would have earned if he had not been discharged;  
  2. Front pay, if, for example, reinstatement of the employee is not feasible, the employee is able to prove that he will find it difficult to find a new job and it is necessary to make the employee whole;  
  3. Compensatory damages to reimburse the employee for expenses incurred due to the termination;  
  4. Monetary damages to compensate the employee for his “pain and suffering;”  
  5. Punitive damages to punish the company and, if the employer intentionally violated the law or acted with malice or reckless disregard, the punitive damages for a company employing over 100 employees is capped at $300,000.00; and  
  6. The attorneys’ fees of the attorney representing the employee.  

In addition, the company has to pay its own attorney to defend the company. Attorneys’ fees can easily reach $100,000.00 where claims of discrimination are litigated through a trial. If a company violates the federal Fair Labor Standards Act (“FLSA”) or state laws on wages and hours, the amount of back pay may be doubled. Therefore, executives and human resource managers need to know the rights and responsibilities of both the employees they employ and the companies for which they work.  

I. Reductions-in-Force

Employers may decide to terminate their employees as part of a reduction-in-force. Although employers want to label a termination a “lay off” to soften the impact of the word “termination,” employers need to know that there is a legal difference between a “lay off” and a “termination.” The word “lay off” comes from the union context, in which unionized employers must comply with the terms of a collective bargaining agreement. That agreement will include a provision for reductions-in-force. Usually, reductions-in-force are considered layoffs, because the employees have an expectation that the employer will recall them to their jobs when economic conditions improve. However, most non-union employers do not want to create such an expectation on the part of employees they are terminating as part of a reduction-in-force. Therefore, non-union employers who do not have layoff and recall policies should refer to their actions as terminations, because that is the reality of the actions the employer is taking.  

To analyze the risks an employer has when conducting a reduction-in-force, employers need to consider the contractual arrangements, the federal and state laws relating to notice and discrimination and the efficacy of using release agreements.  

Contractual Arrangements. Employers should begin by reviewing all employee handbooks, employment policies, individual employment agreements, and/or union contracts to identify any advance notification requirements or prohibitions relating to a reduction-in-force. If an employee has an employment agreement, is the employee entitled to a severance payment? Is the employee’s seniority a consideration for choosing between employees to be terminated?  

Federal and State Laws Regarding Notice. Depending on the size of the company, the planned reduction- in-force may be governed by the federal Worker Adjustment and Retraining Notification Act (“WARN”) or a specific state’s WARN act. The federal WARN Act applies to employers with 100 or more employees. Among other requirements, WARN requires employers to provide employees, certain government officials and agencies as well as union representatives with a 60-calendar day written notice prior to implementing a plant closing or “mass layoff” as defined by WARN. The content of the advance notices is also governed by the laws. Many states have also implemented a version of the federal WARN Act with similar advance notice requirements, but with a lower employee threshold. A company should not implement a reduction-in-force without reviewing the laws of each state in which the company has employees.  

Discrimination Considerations. When selecting employees for a reduction-in- force, employers need to be cognizant of whether the terminations may have a disparate impact on a class of employees based upon their age, sex, race, religion, disability, veteran status or other classification protected by federal, state or local law. When selecting all employees in a particular position, division, location, etc., the potential for discrimination is lessened. However, when selecting certain employees rather than other employees, employers should be able to articulate a valid, business-related rationale for the selection of particular employees. The rationale may include, among other valid reasons, seniority, education, training, experience, location, elimination of job classifications, and future business plans. Moreover, employers should document the rationale as well as the selection and decision-making process utilized.  

Obtaining Release Agreements. Employers can reduce their exposure to employment-related claims by requesting that each affected employee sign a “release of claims” against the company, the parent company, any world-wide subsidiaries and their directors and officers. In exchange for signing the “release of claims,” the affected employee must be provided something of value, such as a severance payment. There are many requirements for a release to be effective and binding, requiring employers to consult with their attorneys regarding the need for special language for certain employees.  

II. Cost-Cutting Alternatives to a Reduction-In-Force

While some clients are considering a reduction-in-force, other clients have inquired about other costcutting strategies that may eliminate the need for a reduction-in-force. The alternatives listed below are governed by federal laws and must also be reviewed in light of applicable state laws. The options include:  

Reducing Employee Salaries Prospectively. Absent a contractual agreement to the contrary (employee handbook, union contract, employment agreement), employers are generally permitted to reduce employee compensation prospectively to obtain an immediate reduction in labor costs. Employers may not reduce compensation below the minimum wage. Typically, employers considering this option provide all employees with an advance notice of the reduction in an employee meeting and/or letter from a senior company official. In exchange for retaining his or her job, potentially affected employees may be more receptive to a uniform pay decrease, especially if the reduction is shared by all employees, including executives.

Mandatory Furloughs. Some employers are considering requiring employees to take specific periods of time off (furlough) without pay to reduce labor costs. Before mandating furloughs, the company must review each affected employee’s status to determine if they are exempt or non-exempt under the FLSA. Generally, non-exempt employees are those employees who are entitled to overtime for all hours worked in excess of forty hours in a given work week or some other period of time under state law. Exempt employees are not entitled to overtime pay and must be paid on a salaried basis. Employers are not required to pay non-exempt employees during a mandatory furlough, absent a contractual agreement. Thus, an employer may order employees not to work one day a week or month. However, employers may not fail to pay exempt employees for a period of time less than a work week, because they are entitled to receive their fixed salary if they work any time at all during the work week. If an employer wants to furlough exempt employees, the employer must furlough the exempt employees for an entire work week and the employee must not perform any work for the employer, including checking his or her voice or e-mail accounts. If the exempt employee performs any work, he or she must be paid their full salary for the entire work week.  

Voluntary Separations. Depending on the nature of the reduction-in-force and the demographics of the workforce, employers may consider creating a voluntary separation incentive plan. Here, the employer establishes a program that provides affected employees with the option to receive a percentage of his or her salary and benefits for a limited period of time, if the employee agrees to voluntarily separate from the company by a specific date. In these situations, the employer is simply seeking to reduce head count and is not overly concerned with where in the company the reductions occur.  

Reducing Work Week and Salary. Employers may also consider reducing each employee’s work week and making a corresponding reduction in each employee’s compensation. For example, a company could establish a new four-day work week and reduce all of the employees’ compensation 20% to account for the reduction in hours. Any reduction must be done prospectively. Additionally, any reduction in hours should be compared against the eligibility requirements of welfare plans to ensure that the reduction in hours does not inadvertently eliminate the employees from participating in the health insurance plan.  

III. Employee Benefit Considerations

Unemployment Compensation. Depending on whether the employee is furloughed for a limited period of time or terminated, he or she may be eligible for unemployment insurance benefits. Employers fund an unemployment insurance program in each state by mandatory payroll tax. Generally, when an employee is terminated or suffers a reduction in hours, he or she is entitled to an unemployment benefit payable by the particular state. Each state has its own specific requirements when determining whether an employee is eligible for unemployment compensation. As a result, depending on the nature of the reduction, the affected employee’s eligibility for unemployment compensation and each particular state’s regulations, an employee may or may not receive an unemployment compensation benefit from a state.  

Health Insurance Coverage Continuation. Employees who experience a job loss or a reduction in hours may also experience a loss of group health insurance coverage. Generally, employers with twenty or more employees are required to offer affected employees and their dependents the opportunity to continue the company’s health insurance coverage for a specified period of time under the federal Consolidated Omnibus Budget Reconciliation Act (“COBRA”). The employer or the plan administrator is required to provide the affected employees and their dependents with the appropriate election notices. For employers with less than twenty employees, most states have implemented a mandatory health insurance coverage continuation law similar to the federal COBRA law. Employers must review their obligations under applicable health insurance continuation laws.  

Other Welfare Plan Rights. In addition to the health insurance continuation requirements of COBRA, employees may be entitled to continue or convert their life, dental and/or disability insurance. These plans typically only allow a limited time for employees to act and are often overlooked by many employers, thereby depriving employees of their contractual rights. Employers must review these plan provisions to clearly identify an employee’s rights.

Retirement Plans. Employers must review their 401(k) plans to determine whether they will experience a partial plan termination as a result of a reduction-in-force. The IRS has promulgated regulations that define whether a partial plan termination has occurred. Based on the facts of the reduction, if it is determined that the 401(k) plan has experienced a partial plan termination, employers (1) must vest all employees at a certain percentage in the plan and (2) should prepare a board action authorizing and memorializing the vesting of all eligible employees. Notwithstanding the partial plan termination regulations, all affected employees should also be provided information on how to roll over their 401(k) account into an individual retirement account.  

IV. Your Situation Is Unique

Because of the Firm’s broad client base, this information is necessarily very general. Your company’s size, location(s) and objectives will determine what options will be the most effective. Because improper employment actions can adversely affect the financial standing of the company, proper planning and execution is required to reduce the risk of future employment-related litigation in the various state or federal courts throughout the country. An improper termination may cause an employee (sales, filed service technician, etc.) to bring a lawsuit in his or her home state causing the company to defend an action in a distant state.