Reducing the Risks of Pay Discrimination Claims: Employer Pay Equity Audits

With a proliferation of recent legislative changes and proposed regulatory changes, pay equity is going to be an issue for which employers need to prepare and face head on. Generally speaking, employers may be at risk for pay discrimination claims if they:

1. do not have proper policies, procedures, and processes in place that would prevent pay disparities from occurring or would provide an appropriate defense where there are disparities based on legitimate reasons;
2. have policies and procedures that are not well-designed; and/or
3. do not take steps to follow or ensure compliance with their appropriate policies and procedures.

In an effort to stay ahead of the game, Employers should conduct analyses of their policies, procedures, processes, and data to identify pay disparities and weaknesses as follows:

1. identify potential pay disparities within appropriate job classifications;
2. determine whether there are legitimate explanations for those disparities and/or take steps to correct the disparities as appropriate; and
3. identify and correct weaknesses in the company’s systems so that the employer is protected from claims of pay disparity going forward.

The following article offers employers a primer on developments in this rapidly-developing area of the law in addition to guidance and best practices on how to accomplish these three goals.

Legislative and Regulatory Initiatives

Pay discrimination based on gender has been prohibited by federal law under Title VII of the Civil Rights Act of 1964, which prohibits gender discrimination, the Equal Pay Act of 1963 (EPA), which prohibits gender discrimination in pay, and under many state laws for decades. While employees have asserted claims under these statutes since their inception, both on an individual and a class and collective basis, we anticipate a renewed focus on these types of claims due, in part, to recent legislation in California and New York.

California recently passed amended pay equity legislation—the Fair Pay Act (FPA)—purportedly designed to close the “gender pay gap” that is much discussed in the political and media arenas. The FPA is similar to its predecessor California statutes and the federal EPA, with some important exceptions that may make it more difficult for employers to defend pay differentials between male and female employees in California. Similarly, New York has passed a Pay Equity Act, which is designed to strengthen its existing pay discrimination statute, in a manner that is very similar to California’s FPA. Other states are considering similar changes to their state laws.

The challenges that these new state statutes present for employers may, in turn, lead to additional litigation and focus on employers’ pay differentials and pay decisions across the country—especially for those employers that conduct business in California and New York, in addition to conducting business in other parts of the country.

In addition to these legislative initiatives, the Equal Employment Opportunity Commission (EEOC) and the Office of Federal Contract Compliance Programs (OFCCP) recently announced proposed changes to government reporting requirements for employers with more than 100 employees and government contractors, requiring those employers to provide pay data on an annual basis.

Identifying Pay Disparities 

As a first step, employers may want to conduct an audit of their current employee pay—either internally or with the assistance of outside counsel and experts. In either case, it is important that the audit be conducted in a manner designed to protect it as privileged—which requires the employer to take certain, specific steps in advance of conducting the audit. An audit that is not privileged will be discoverable and may provide a plaintiff or the government with evidence of pay disparities that are not supported by legitimate factors.

An audit may focus on the entire workforce or a subset of the workforce identified by region, job title or classification, department, etc. The employer may consider starting with a smaller subset of employees before branching out to analyze larger portions of the workforce.

The audit will need to include the development of a clear understanding of the company’s pay practices and decision-making, including: (1) the types of pay decisions the employer makes (starting pay, pay increases, bonuses); (2) the policies and guidelines applicable to pay decisions; (3) the individuals who have the authority to make and approve pay decisions; and (4) the criteria upon which decision-makers rely in making pay decisions. This information is necessary before any statistical or other analysis can be conducted—we cannot analyze pay decisions without understanding the factors on which they are based.

Once employers have a clear understanding of these important factors, they should analyze the numbers—comparing the current pay of male and female employees in the same or similar positions (as discussed in detail below) to determine if any pay disparities exist. If there are any pay differences (and there likely will be some, whether in favor of males or in favor of females) then the analysis proceeds to controlling for legitimate factors that may explain and justify the pay difference.

Identifying Legitimate Explanations for Pay Disparities & Correcting Unexplained Disparities

Identifying potential disparities is only the first step. The employer conducting the audit then needs to determine whether the disparities are justified by legitimate factors unrelated to sex.  This will involve incorporating the decision-making criteria and processes identified during the initial fact investigation process. Whether a factor constitutes a legitimate justification for a pay differential will depend on, among other things, the nature of the business and the positions at issue. For example, a retail employer may legitimately pay the manager of a store with higher gross revenues a higher salary than it pays a manager of a store with lower gross revenues, because the higher grossing store may reflect, among other things, stronger performance and more operational challenges. Similarly, an employer may be justified in paying more to a more experienced employee. An employer’s analysis may need to go beyond current pay to fully explore the reasons for a current pay disparity and determine whether it is supported by prior pay decisions, for example, lower pay increases that were awarded to workers with lower performance evaluation scores.

Notably, the more objective data the employer has incorporated into its electronic data system, the easier it will be to conduct these statistical analyses and the less expensive it will be.  Relevant information that is not in electronic format will need to be incorporated into the analysis manually, which can be time consuming and, in most cases, more expensive.

One particular challenge may be in determining who the appropriate comparators are. A singular focus on job titles will not suffice under either federal law or state law (such as those of California and New York). Rather, the employer needs to make sure that the analysis is comparing employees who perform “substantially similar work when viewed as a composite of skill, effort, and responsibility and performed under similar working conditions” (as required by California’s FPA, for example) or employees who work within the same establishment and who perform “equal work on jobs the performance of which requires equal skill, effort, responsibility and is performed under similar working conditions” (as required by the federal EPA). While there are important differences between these standards, the point is that the audit needs to make sure that the comparison is apples to apples: employees who are performing similar work regardless of titles or even, in some cases, job descriptions.

In an ideal scenario, once an employer has incorporated all relevant, legitimate factors into the analysis, unexplained pay disparities will not exist. However, to the extent there are remaining disparities, the employer will need to determine how to address these. Further digging into the details may reveal additional reasons for that illustrate that the disparities are, after all, supported by legitimate factors. If such legitimate factors do not emerge, the employer will need to take steps to correct any pay disparities.

The primary way to correct pay disparities is to increase the pay of those whose pay was lower than that of their comparators without a legitimate explanation for the disparity. Notably, the EPA expressly prohibits an employer from lowering the pay of a comparator to address disparities. However, employers may be able to identify solutions that will correct the problem in other ways.

If an employer determines that pay increases are in order to correct pay disparities, the employer will need to develop a strategy for implementing the correction and effectively communicating with the affected employees about the correction without increasing the risk of potential liability.

Identifying and Correcting Systemic Weaknesses

Throughout the audit process, the individuals conducting the audit should be identifying weaknesses in the company’s pay system that may be the cause of disparities. Some problems that may lead to disparities include the following:

• a lack of meaningful standards, guidelines, or guidance on starting pay rates, increases and other components of compensation ;
• a failure to train management on how to make decisions concerning pay rates;
• management’s exercise of unfettered discretion and wholly subjective decision-making with regard to pay rates;
• the employer’s failure to articulate the reasons for its pay decisions and failure to document its decisions;
• the employer’s failure to communicate the criteria used to make pay decisions and the basis for its decisions;
• the employer’s use of favoritism as a basis for pay decisions.

If the weaknesses in the system are not corrected, the employer will continue to have issues with pay disparities and will be at risk for claims of pay discrimination. Here are some of the steps employers can take to shore up their pay decision processes to ensure that the pay decisions they make are equitable and strengthen their ability to defend those decisions:

• Consider implementing standard pay ranges or guidelines for each position or classification. The guidelines should be based on objective, quantifiable factors—such as sales figures or quantifiable experience—and should provide guidance as to the types of relevant factors decision-makers may consider in exercising discretion within the guideline ranges.
• Consider implementing written policies for pay increases and bonuses so managers know what their authority is and employees know what they may be eligible for. Employers should look for ways to reign in subjectivity and discretion within ranges (either original ranges or ranges of potential increase amounts) with objective factors. 
• Communicate with employees about pay increases, bonus opportunities, and their eligibility for both. Ensuring that employees have a clear understanding of how the process works provides employees with some incentive to work harder to meet eligibility requirements for higher increases and bonuses.
• Document pay decisions at the time they are made. Ideally the documentation should include:
  • the date of the decision;
  • the names of the decision-makers;
  • the applicable pay range for the decision, if any;
  • the basis for any objective factors the employer considered and upon which the employer relied;
  • the subjective factors that the employer considered and upon which the employer relied; and
  • any other bases for a pay decision.

• Assess the company’s performance evaluation process and its role in pay decisions. Often performance evaluations are the only real evidence of an employee’s performance over the course of the year, and, if not conducted properly, they can lead to incongruous results in pay decisions. Evaluations should include both objective and subjective factors, along with guidelines on how to rate employees on these factors. When possible, managers should be encouraged to provide concrete examples of good or bad performances to support a rating.
• Consider training decision-makers on the following topics:
  • how to make pay proper decisions that comply with company policies and the applicable law, including how to conduct  performance evaluations;
  • the relevant and appropriate factors to consider when making pay decisions;
  • how to apply any guidelines and exercise discretion appropriately;
  • how to tie various relevant factors to specific dollar amounts;
  • articulating the bases for decisions;
  • documenting decisions; and
  • communicating pay decisions to the affected employees.

Finally, employers should consider implementing a policy or practice of conducting periodic pay analyses to determine whether employee pay is matching expectations and performance and whether the employer must make adjustments. For example, an employer may be paying an employee with limited prior experience at a lower rate than an employee with more experience. A pay increase process that provides for percentage increases over current pay rates may not bridge that gap at all, and, even if it does, the process may take a long time.

Conclusion 

With the new California FPA and New York’s Pay Equity Act, there is sure to be more pay discrimination litigation in California and New York. In addition, many of the same issues that would give rise to claims under California or New York law may also give rise to claims under federal law and the pay equity laws of other states. Employers need to be prepared to identify and correct any unjustified pay disparities now and to ensure they are using best practices in making pay decisions going forward.