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Practical Insight on Government Contracts and International Trade

Export Control Reform Kicks Off Next Week – Be Ready

Posted in International Trade and Anti-Corruption Compliance, Uncategorized

On Tuesday, 15 October 2013, the most substantial changes in the history of the two U.S. export control regimes, the International Traffic in Arms Regulations (“ITAR”) and the Export Administration Regulations (“EAR”), go into effect. On that day, certain items formerly controlled under the ITAR begin “migrating” to the EAR.  While these changes should result in greater commercial opportunities for companies conducting international trade, there will be growing pains as the changes are implemented.

Though export controls are generally being relaxed, they are not being simplified.  Some of the major changes include: 

  • Some items previously controlled as Defense Articles under Category VIII (Aircraft and Related Articles) of the U.S. Munitions List (“USML”) will migrate from the U.S. Department of State’s jurisdiction (where they were controlled under the ITAR) to the jurisdiction of the U.S. Department of Commerce (where they will be controlled under the EAR).  While the defense aerospace community is the first to undergo such changes, other categories of the USML will experience similar transitions over time. 
  • USML Category XIX will be created to regulate Gas Turbine Engines and Associated Equipment that remain under the ITAR/State Department’s jurisdiction.
  • New “series 600” Export Control Classification Numbers (“ECCN”) will be created for the EAR’s Commerce Control List (“CCL”) in order to be ready to accept the items migrating from the USML to the CCL.  This is already being referred to within international trade circles as the “iTAR-mini” within the EAR.
  • The key concept of “Specially Designed” will be re-born at part 120.41 of the ITAR.  This term will have far-reaching effects on export jurisdiction and classification determinations under the new export regulations.  Your first step to understanding the new regulatory framework should be to grasp the “catch and release” methodology of “Specially Designed” under the ITAR.
  • EAR License Exception “Strategic Trade Authorization” (“STA”) will be revised to permit the export of many items migrating to series 600 ECCNs on the CCL. This is a positive result, as most of these items were previously subject to more restrictive licensing parameters under the ITAR.  However, ensuring proper usage (and deterring overuse/misuse) of license exception STA will likely become the major focus of the Commerce Department’s Office of Export Enforcement.
  • The EAR’s China Military End-Use Rule (EAR § 744.21) will undergo changes to key definitions and will expand to require licensing for all items migrating from the USML to series 600 ECCNs on the CCL (regardless of end use) before such items may be exported to China.

What’s Next?

  • On 25 October 2013, the current interim final rule regarding ITAR Brokering will become a final rule.
  • On 6 January 2014, certain items previously controlled as Defense Articles under USML Category VI (Vessels of War and Special Naval Equipment), Category VII (Tanks and Military Vehicles), Category XX (Submersible Vessels, Oceanographic and Associated Equipment), and Category XIII (Auxiliary Military Equipment), will migrate from the jurisdiction of the State Department to that of the Commerce Department in a manner similar to what will occur for USML Category VIII on 15 October 2013.
  • At some point in the future, the State Department will issue a final rule providing a revised definition of an ITAR Defense Service.  Don’t hold your breath, however.  Two proposed rules have been issued over the past couple of years, but it is unclear when a final rule will be issued.

For further information or an explanation about the matters discussed here, please contact any of the following attorneys in our International Trade Practice Group.

A Waiting Game: No reaction from the Court of Federal Claims to Raytheon Company, Space & Airborne Systems

Posted in Claims and Disputes, Contracting Rules and Regulations

A recent decision of the Armed Services Board of Contract Appeals (“ASBCA”) seems to nail down the issue of exactly when a claim accrues to the government under the Contracts Disputes Act (“CDA”) arising from increased costs due to changes in a contractor’s accounting practices.  In Raytheon Co. Space & Airborne Systems, ASBCA 57801 (“Raytheon”), the ASBCA announced its test for determining whether the government knew or should have known that it had a valid cause of action.  Such claims accrue (and the six-year statute of limitations clock starts ticking) when (a) the contractor reports an accounting change; (b) informs the government of any resulting adverse dollar cost impact; and (c) the change takes effect.  According to the ASBCA, when all three elements occur, the statute of limitations will begin to run.

While ASBCA’s identification of these specific elements might be the biggest news out of Raytheon, the question of what the Court of Federal Claims (“CFC”) will do with the ASBCA’s findings remains unclear.  Though suit in the CFC is a more expensive option, contractors nevertheless can seek de novo review of final agency determinations there under the CDA.  Importantly, CFC is not bound by ASBCA decisions, and so it is at least possible that the CFC could come up with a different standard for when a government claim accrues that is based on cost increases resulting from changed contractor accounting practices.  In other words, the CFC could reach a different conclusion than the ASBCA did.  In that case, the Court of Appeals for the Federal Circuit (“CAFC”) likely will be called upon to resolve such discrepancies.

The Good, The Bad and The Ugly: Compensation Issues Faced by Government Contractors

Posted in Contracting Rules and Regulations
Part 3 of 3

This is the final installment of a three-part series on compensation methods used by government contractors.  The first two installments discussed the differences between equity and non-equity compensation, as well as the benefits and disadvantages of stock options and restricted stock grants.  This article will discuss the benefits and disadvantages of synthetic equity.

Synthetic equity can be generally described as a contractual right structured to simulate the economic benefits of equity ownership in a company.  Since the rights are based on a contractual arrangement, rather than on statutes, the potential forms and structures are nearly limitless.  The two most common forms are long term incentive compensation agreements and stock appreciation rights plans.  Both are primarily structured to provide compensation to recipients upon the occurrences of certain triggering events.  Note that the compensation can take the form of cash or equity.  However, we will focus on the non-equity compensation in this article, since equity compensation falls within the scope of previous articles.  The most common event triggering payment under most synthetic equity arrangements is the sale of the company.  However, several other triggering events can be used as well (e.g. death, disability, retirement, etc.), and these are beneficial for companies unlikely to be acquired in the near term. 

A long-term incentive agreement is an agreement entered into between the company and a single employee to incentivize the employee by providing a payment upon certain triggering events.  These types of agreements are beneficial, and often the best option, where the company needs to incentivize a small number of individuals. 

Good:

  • The employee has an incentive to grow the value of the business.
  • Can be used by companies not able to use equity compensation as a result of SBA restrictions on ownership.
  • Can be structured to terminate with employment, with no payment by the company, or to limit payment to certain termination events.
  • Recipients do not become equity owners and do not have any governance rights.
  • Can be structured to vest over time, or upon certain triggering events, like a stock option.
  • Payments are deductible to employer as compensation in the year the payment is made.

Bad:

  • Payments are typically taxed as ordinary income, with no capital gains benefits.
  • Payment commitments are treated as a liability on the company’s balance sheet.

Ugly:

  • If not structured properly, the compensation plan could be subject to stringent labor or tax regulations (e.g., Section 409A of the Internal Revenue Code or ERISA).

Stock appreciation rights (“SAR”) plans are structured to allocate a portion of the increases (and decreases) in the changes in a company’s value to the recipient.  If the company’s stock price increases, the recipient of stock appreciation rights will be entitled to a higher payment value upon a triggering event.  The benefits and disadvantages of these plans are similar to those listed above for long-term incentive compensation arrangements, but below are some additional considerations for SAR plans:

Good:

  • Can serve as a substitute for option plans if the company is unable to issue options due to ownership restrictions.
  • There is no limit on the number of rights that can be granted to employees.

Bad:

  • Can be difficult to explain to employees.
  • Grants must be limited to high-level employees.
  • Some structures require a periodic valuation of the company.

Ugly:

  • Unlike some option plans, most SAR structures provide no liquidity to employees prior to a triggering event.

Look Before You Leap: Anti-corruption Risks in Relationships with Foreign Parties

Posted in International Trade and Anti-Corruption Compliance

Companies choose to engage with foreign parties for a number of reasons – consulting agreements, distributorships, joint ventures, etc.  Whatever the reason for the relationship, a company may get more than it bargained for if it is does not properly consider the anti-corruption risks involved in the arrangement.  The Foreign Corrupt Practices Act of 1977, as amended (15 U.S.C. §§ 78dd-1, et seq.) (“FCPA”), the UK Bribery Act of 2010, and an ever increasing number of other international anti-corruption regimes make it unlawful for certain classes of persons and entities to provide money or anything of value to foreign government officials, or businesses and individuals so intimately associated with foreign governments that they are considered to be foreign government officials, to assist in obtaining or retaining business. Violations can result in significant civil, criminal, and administrative penalties, including disbarment from government contracting. Yet, many foreign parties consider such payments to be merely the cost of doing business.  They are either unaware of these corruption laws or believe that such laws do not apply to them.  But make no mistake, a foreign partner’s actions can lead to big consequences for the U.S. companies with whom they do business.

Under the FCPA and other regimes, a company does not have to know about, or affirmatively sanction, misconduct by its foreign partners in order to be liable.  A company can be liable for anti-corruption violations by a foreign partner acting as its agent, or taking actions for its benefit, merely because it “stuck its head in the sand” and consciously disregarded, or failed to investigate, the corruption risks involved in the relationship.

There is no one size fits all means to eliminate the anti-corruption risks involved in relationships with foreign partners; however, a company can dramatically decrease its risk by taking four simple steps. These steps can take time, however, and may require the assistance of outside counsel. As such, companies are best served to consider anti-corruption issues early on when contemplating a new arrangement.  Companies who have never engaged in an anti-corruption analysis may be well served to contact outside counsel to obtain checklists and other tools or inquire about best practices. If companies identify anti-corruption concerns early, counsel can often mitigate them to ensure that fruitful arrangements can go forward with minimal risk.

1.         Assess the Risk Involved

Not all foreign relationships are created equal.  A company must assess the corruption risks inherent in each partnership by evaluating:

(1)        the countries involved, including (a) their nationality, (b) their potential connections to government officials or entities with governmental ties, (c) who recommended them or how they were selected as a partner, (d) their prior issues with corruption, if any, and (e) their status on any relevant prohibited parties lists;

(2)        the countries involves including their relative level of, and tolerance for, corruption;

(3)        the financial arrangements involved, including the level of payment or commission, how it will be paid, and to whom; and

(4)        the nature of the transaction, including what specific services will be provided, who will provide them, and why they are necessary.

Companies who interact with foreign partners regularly may be wise to develop a standardized risk assessment questionnaire or procedure.

2.         Perform the Appropriate Level of Due Diligence

A company must tailor its due diligence to the level of risk.  Due diligence may be as simple as a self reporting questionnaire or as complex as a full scale audit.  Regardless of the level of due diligence it should be consistent, thoroughly documented, and retained.  Companies who interact with foreign partners regularly may wish to develop standard due diligence procedures or checklists with the assistance of counsel to minimize the costs and time associated with this process.

3.         Obtain an Anti-Corruption Certification

A company should make its foreign partners aware of the anti-corruption laws to which it is subject, its commitment to compliance, and its compliance program, if any.  It should then have its foreign partners certify in writing that (1) they have not engaged, and will not engage, in any inappropriate behavior while acting on behalf of the company;  (2) they are aware of no anti-corruption concerns about which they have not informed the company and they will inform the company of any concerns going forward; (3) they have been truthful in responding to the company’s due diligence questions; and (4) they recognize that anti-corruption violations can result in significant penalties for the company and in termination of their relationship with the company. Companies who interact with foreign partners regularly may wish to develop standard third party or foreign partner certifications.

4.         Memorialize the Arrangement

Arrangements with foreign partners should be memorialized in writing and include at a minimum (1) a description of the services involved, (2) a time frame for completion or contract re-evaluation, and (3) a description of the payment arrangement.

COFC Confirms that SDVOSBs Are Entitled to Due Process Notice and Opportunity to Respond to Adverse Ownership and Control Findings Made During Bid Protest; COFC Decision Causes Veterans Affairs to Review Unconditional Ownership Procedures

Posted in Bid Protests

The Court of Federal Claims recently affirmed that due process requirements apply with equal force to SDVO determinations made by the Department of Veterans Affairs Office of Small and Disadvantaged Business Utilization (“OSDBU”) as to other Government determinations.  In Miles Construction, LLC v. United States, the Court of Federal Claims held that an SDVO must receive notice and an opportunity to be heard when the OSDBU reviews a veteran’s unconditional ownership of a SDVOSB as part of a bid protest.

While the decision is significant, it falls in line with other cases regarding the substantive and procedural due process rights of contractors.  Veteran owners at risk of being de-certified should be afforded at least the opportunity to rebut the Government’s findings before receiving an adverse determination that has a significant impact on the livelihood of the owners and employees.

Most notably, Miles Construction also seems to pave the way for resolution of the recent uncertainty about restrictions on ownership and control for purposes of SDVOSB program eligibility verification by way of future OSDBU decisions.  The decision prompted DVA to change its prior policy that the presence of transfer restrictions, specifically first right of refusal provisions, on a service-disabled veteran’s ownership interest constitutes the “absence of unconditional ownership” for DVA SDVOSB verification purposes.  Now, DVA permits verification of SDVOSB’s even if their service-disabled veteran owners hold ownership interests subject first right of refusal provisions.

Since Miles Construction, DVA has tried to clarify what constitutes “unconditional ownership” while making it easier for more SDVOSB’s to become verified.  DVA has requested comments about whether to have a list of “what constitutes ownership and control and what constitutes lack of control or ownership.”  DVA also has updated its Verification Assistance Program to provide additional guidance on what effect transfer restrictions might have on DVA SDVOSB verification.  As of yet, however, it remains unclear exactly which transfer restrictions amount to an “absence of unconditional ownership,” and so SDVOSB’s must remain wary of pitfalls associated with ownership interests subject to transfer restrictions.

The application of the APA’s procedural due process safeguards to “unconditional ownership examinations” should help provide guidance on these ownership and control issues.  Since protested concerns will have an opportunity to respond to OSDBU’s ownership examination, OSDBU will inevitably have to address which types of transfer restrictions do or do not constitute unconditional ownership and control.  Thus, the application of basic due process requirements to “unconditional ownership examinations” promises future guidance on this critical issue.

Saved by the Server: The Court of Federal Claims Holds That An Electronic Proposal Submitted By The Contractor Prior To The Deadline (But Received By The Agency After The Deadline) Is Timely

Posted in Contracting Rules and Regulations

Chalk a win up for those last-minute proposal submissions that run up against the submission deadline. A recent U.S. Court of Federal Claims decision held that where a proposal is submitted electronically and received by a government server under the agency’s control prior to the submission deadline, the Government Control exception applies, rendering the submission timely. Judge Allegra stated in Insight Systems Corp. and Centerscope Technologies, Inc. v. United States that the Government Control exception provides that a proposal submission is not late if “[t]here is acceptable evidence to establish that it was received at the Government installation designated for receipt of offers and was under the Government’s control prior to the time set for receipt of offers.” In other words, a contractor’s proposal that is electronically submitted at 4:55 p.m. can be considered timely under a 5 p.m. deadline if there is evidence to show it got stuck in an agency’s servers – even if the agency does not receive the submission until 5:30 p.m.

Such was the case in Insight, where the two protesters submitted their quotations electronically before the RFQ-mandated 5 p.m. deadline, but the agency, due to internal errors with its servers, did not receive the quotations under after the deadline. The agency essentially argued that “late is late,” providing no relief for what it deemed a tardy submission. The agency further reasoned that the Government Control exception did not save the protesters’ quotations because it did not apply to electronic submissions. Judge Allegra disagreed, stating that “[t]his opens no Pandora’s (mail)box ─ it merely applies that exception, as written, to the technology that agencies themselves choose to employ.”

While it is certainly safer (and highly recommended) to submit an electronic proposal in reasonable advance of a submission deadline in order to avoid a timeliness debacle, contractors should take note that not all proposals deemed late by procuring agencies are necessarily late.

 

Federal Agencies Begin Rule-Making Process under Executive Order to Improve Critical Infrastructure Cybersecurity

Posted in Information Security and Privacy

This past week, Northern Alabama received a stark local reminder of the cyber threat danger. As reported by Leada Gore of al.com, Nick Lough of WAFF television, and Bloomberg, Chinese hackers infiltrated the regional office of a major security contractor’s computer networks over a three-year period. In addition to stealing some significant trade secrets, the hackers may have also gained access to sensitive U.S. Government information.

The threat of cyber attacks and network shutdowns are neither limited to companies selling to the Government nor foreign governments intent on stealing defense designs and plans. Rather, these threats extend to major U.S. industries that touch almost every facet of American lives and livelihood.

The Federal Government has worked diligently over the last several years to respond to the cyber threat. President Obama recently issued an Executive Order and Presidential Policy Directive that attempt to assist in the uniform creation of a cybersecurity protective “framework” for “critical infrastructure” industries with the ultimate goal of having these industries share cyber information with the Federal Government and with each other. DHS, DOD, Commerce, and ODNI have been tasked with addressing various aspects of the puzzle.

The major thrust of the Executive Order is to create common standards among these 16 critical infrastructure industries to share information regarding cyber attacks with the Federal Government. Equally importantly, the Executive Order sets up a framework under which the companies within these industries can voluntarily create standards for information sharing within each industry.

While information sharing is an excellent goal, the Federal Government recognizes that separate privacy-related legislation will bar the robust sharing of information in most industries and that companies are unlikely to want to provide the details of their lucrative intellectual property and R&D either within industries or to the Federal Government without equally robust controls.

A delicate balance must be struck between protecting the nation and data privacy. Coinciding with the Fifth Annual Cyber Summit in Huntsville, Alabama on June 6, 2013, we will explore and assist readers in unraveling this ‘Meereenese knot’ over the next several weeks. In so doing, we will identify the current efforts and challenges the Federal Government and critical infrastructure industries face as they tackle these issues as well as new and impending compliance requirements set forth in acquisition regulations.

Foreign Corrupt Practices Act (FCPA) Spring Update

Posted in International Trade and Anti-Corruption Compliance

Stamping out foreign bribery is a Justice Department priority, and we are determined to continue our vigorous enforcement of the Foreign Corrupt Practices Act.

- DOJ Acting Assistant Attorney General Mythili Raman, April 16, 2013.

After a quiet first quarter, Foreign Corrupt Practices Act (FCPA) enforcement has roared back in recent weeks with numerous enforcement actions against corporations and individuals.  Notable examples are highlighted below:

Ralph Lauren

  • On April 22, Ralph Lauren Corporation agreed to pay $1.6 million in combined penalties to the DOJ and SEC in exchange for dual non-prosecution agreements after its Argentina subsidiary paid bribes to government officials in order to obtain improper customs clearance of merchandise.
  • Key Takeaway: Ralph Lauren marks the first time the SEC has resolved an FCPA case using a non-prosecution agreement (as opposed to a deferred prosecution agreement or injunctive action).  In its press release, the SEC explained that this decision was “due to the company’s prompt reporting of the violations on its own initiative, the completeness of the information it provided, and its extensive, thorough, and real-time cooperation with the SEC’s investigation.”  Interestingly, prior SEC settlements have expressed similar sentiments yet reached a different resolution (e.g., 2011 TenarisS.A. deferred prosecution agreement), so it remains to be seen whether Ralph Lauren represents a new SEC enforcement strategy.

Parker Drilling Company 

  • On April 16, Houston-based Parker Drilling Company resolved FCPA charges with the DOJ and SEC for bribes paid by its third-party agent to Nigerian officials in order to circumvent customs and tax laws.  As part of the settlement, Parker entered into a deferred prosecution agreement with the DOJ and paid $15.85 million in criminal and civil penalties.
  • Key Takeaway: Proper due diligence and monitoring of third-party agents are essential components of an FCPA compliance program.

Phillips

  • On April 5, Dutch medical equipment manufacturer Koninklijke Philips Electronics N.V. resolved FCPA violations with the SEC related to payments made by its Polish subsidiary to health care officials involved in purchasing medical equipment via public tenders.  Philips agreed to pay more than $4.5 million in disgorgement and pre-judgment interest and received an administrative cease-and-desist order from the SEC.  The DOJ’s investigation appears to be ongoing.
  • Key Takeaway: Even when the underlying payments have no U.S. nexus, the SEC will still enforce violations of the FCPA books and records and internal controls provisions.

BizJet Executives

  • On April 5, charges were unsealed against four former executives of BizJet International Sales and Support Inc., an Oklahoma-based subsidiary of Lufthansa Technik AG.  The charges are connected to a March 2012 BizJet and Lufthansa settlement with the DOJ arising out of allegations that BizJet paid bribes to government officials in Latin America in connection with contracts for aircraft maintenance, repair, and overhaul services.  Two of the four executives have been sentenced to date, with each receiving probation and eight months home detention.  The DOJ noted that their sentences were reduced based on their cooperation with the government’s investigation.
  • Key Takeaway:  As stressed in the DOJ’s press release, “[t]hese charges reflect our continued commitment to holding individuals accountable for violations of the FCPA, including, as in this instance, after entering into a deferred prosecution agreement with their employer.”

The Good, the Bad, and the Ugly: Compensation Issues Faced by Government Contractors (Part 2 of 3)

Posted in Corporate, Capital, and Finance

This entry is the second of a three-part installment on types of deferred compensation and will briefly explain the positive and negative aspects of using stock options and restricted stock grants as means of providing deferred incentive compensation to employees.

A stock option is a right granted to an employee or other person to purchase stock at a fixed price.  The recipient of an option can typically exercise the option after the underlying stock price has increased in value, allowing the recipient to purchase more valuable stock at the discounted fixed price at some point in the future.  An option can be either a statutory stock option, sometimes referred to as an incentive stock option (or ISO), or a nonstatutory or “nonqualified” stock option (or NQO).  To qualify as an ISO, an option must be granted by a corporation to an employee with an exercise price equal to or greater than fair market value of the covered stock, and must be issued pursuant a written plan containing certain provisions described in the IRS regulations.  All options that do not meet the ISO requirements are NQOs by default.  While NQOs may be structured and exercised in a manner similar to ISOs, the federal tax treatment to the recipient of these different types of options can be substantially different.

Good:

  • Stock options are easily understood by most employees, and provide a clear incentive to help grow the value of the business.
  • Stock options can be structured to vest over time or upon the occurrence of certain events.
  • Stock options may enable employees to exercise the option and simultaneously sell the underlying stock to a third party without paying out of pocket.
  • ISOs provide a tax advantage to the employee by deferring taxation on the difference between the sales price of the stock and the exercise price until the stock is sold.
  • NQOs can result in a deduction by the employer, to the extent the employer

Bad:

  • ISOs do not generate a tax deduction for the employer.
  • ISOs may only be issued to certain employees, and the number of ISOs that can be issued each year is limited.
  • ISOs are subject to certain holding period requirements that can nullify some tax benefits to the employee if not properly followed.
  • NQOs can force the company to determine the value of the underlying stock when any transfer restrictions lapse, even when the value is not easily determinable.
  • The difference between the market value and the exercise price NQOs is taxed as ordinary income to the employee when any restrictions on the transfer of the stock lapse.

Ugly:

  • Options issued below fair market value can have disastrous tax consequences to the recipients.
  • NQOs can be subject to punitive the excise tax on deferred compensation under Code Section 409A (imposing a 20% excise tax on certain deferred compensation).
  • ISOs, although tax friendly, can be subject to the Alternative Minimum tax.
  • As with other types of equity compensation, some types of government contracting companies cannot effectively use options, due to restrictions contained in the SBA regulations.

A restricted stock grant is a grant of stock carrying certain restrictions by a corporation to a third party.  For instance, the stock may only become fully vested (i.e. not subject to a substantial risk of forfeiture) after an employee has completed a number of years of service with the company, or after the company has reached certain designated milestones.

Good:

  • The company is entitled to take a compensation expense equal to the then fair market value of the restricted stock when the risk of forfeiture lapses.
  • Vesting can provide easy incentives for certain, targeted goals.
  • The employee will not be required to recognize income until the risks of forfeiture lapse, although employees can elect to recognize the income from the grant at the time of the grant when the stock price is low and pay tax on a lower amount.

Bad:

  • Some employees may not understand the risk of forfeiture concept, making restricted stock more suitable for executive or management-level employees.
  • The holding period for capital gains determinations only begins to run when the employee recognizes income from the grant.
  • Dividends are taxed as ordinary income, rather than capital gains, until the employee recognizes income.

Ugly:

  • As with options, some types of government contracting companies cannot use restricted stock grants, due to SBA restrictions.
  • If the stock value drops after an employee has recognized income, the employee will have paid taxes on the gain without receiving the benefit.

Sequestration and the Government Contractor’s Employees: Double Trouble (continued)

Posted in Contracting Rules and Regulations

In our last blog entry, we discussed how the notice requirements of the WARN Act may apply to decisions made by the contractor to deal with Sequestration.  Another employment law that rears its head in Sequestration-related employment decisions is the Fair Labor Standards Act (the FLSA).   The FLSA deals with wage and hour issues for your employees, and can be the most dangerous and costly set of employment statutes in existence.  It can lead to large awards for unpaid compensation, penalties and large attorney fee awards to prevailing plaintiffs.

So what does the FLSA have to do with Sequestration?  Well, when contractors get pinched on labor costs, they may try to get creative with staffing and compensation plans.  Let’s say, for example, a contract is staffed with several computer-related professionals, each of whom is paid a salary by the contractor (and considered an “exempt” employee by the contractor).   Let’s also say the contractor is told to cut its labor costs.  The contractor wants to save everyone’s job, so it decides to have one of the employees each week take a day off (some may call this a “furlough”).  Although this plan would cut the contractor’s labor costs, it also would violate the FLSA.

According to the FLSA, an exempt employee has to be paid on a “salary basis.” This means the employer must pay the worker a predetermined amount of compensation each pay period, regardless of the quality or quantity of the employee’s work or the actual hours he or she works.  Generally speaking, an exempt employee must receive the full salary for any week in which the employee performs any work, regardless of the number of days or hours worked. So, the hypothetical plan above would violate the FLSA in at least two ways, by (1) paying the employee based on the “quantity” of hours worked by the rotating employee, and (2) not paying the same employee for a full week’s salary because he or she worked that week.

So, if and when you have to get out your sharp pencil to deal with cuts related to Sequestration, by all means be creative, but don’t forget about complying with applicable employment laws, including the WARN Act and the FLSA.

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