When employees work overtime, you are obliged to pay them time-and-a-half. That sounds expensive, but OT hours don't really cost 50% more than regular hours. In fact, under normal circumstances, overtime costs about the same as straight time.

How is that possible? There are three reasons. The first is the assumption that by “normal circumstances” I mean the use of OT hours to get jobs completed on time. Overtime is expensive if you use it for training or nonproductive work such as cleaning out the company truck.

The second reason is that, in most states, workers' compensation and liability insurance premiums are based on regular pay, so you pay only FICA taxes and any profit-sharing benefits based on extra OT dollars. Other benefits, including health insurance premiums, stay the same.

In terms of annual billable hours, paying overtime for productive work costs about the same as regular hours.
In terms of annual billable hours, paying overtime for productive work costs about the same as regular hours.

Remember also that vacation time and holidays don't usually count toward overtime. A 43-hour work week with a holiday in it contains no OT hours, just 35 regular hours plus 8 paid regular hours for the holiday.

BILLABLE HOURS The third reason has to do with billable hours. Although the workweek is based on 40 hours (2,080 hours annually), some of those hours are paid but no work is produced. I calculate the cost per billable hour because only productive hours contribute toward covering overhead.

The biggest reduction in billable hours comes from benefits such as vacations and holidays, but a surprising amount of time is spent in nonproductive activities like travel, maintenance of tools and equipment, or in meetings.

Looked at in relation to billable hours, paying overtime isn't much more expensive than regular pay for an employee who receives a standard package of benefits. For example, let's say the total burdened cost for a $20-per-hour employee is about $65,000 (see example, right). If 272 of those hours are nonproductive, the cost per billable hour jumps from $32.25 ($65,000÷2,080) to $35.95 ($65,000÷1,808). But the same employee working 150 productive OT hours boosts the cost per billable hour just 7 cents to $36.02 ($70,537÷1,958).

HIDDEN BENEFITS None of this takes into account the costs of getting the work done without using overtime. Hiring an extra person isn't any cheaper when you include the cost of the help-wanted ad and your time spent reading résumés and conducting interviews. Plus, during the six-month break-in period, both the trainer and the new hire will lose 25% productivity, so you lose a half-person — about the same as the premium you pay for OT.

Paying overtime gives you the flexibility to work five people 8 hours of overtime in a week, thereby gaining the equivalent of another employee for that one week. It keeps employees busy on your own work while removing the temptation to moonlight, and it gives you an opportunity to earn more gross profit while satisfying your employees' natural tendency to want to make more money.

—Alan Hanbury is partner in House of Hanbury, a third-generation Newington, Ct., remodeling company.