President Biden Orders a $15.00 Minimum Wage for Some Federal Contractor Employees Effective Next Year

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On April 21, 2021, President Joe Biden signed an Executive Order (EO) that, beginning on January 30, 2022, raises the minimum wage for prime contractor and subcontractor employees performing covered contracts or contract-like instruments (Covered Contracts) from $10.95¹ to $15.00 per hour, adjusted annually for inflation.² For tipped employees,³ the Executive Order allows employers to claim a $4.50 tip credit in 2022 against the $15.00 minimum wage for a minimum cash wage of $10.50 per hour.⁴ That tip credit gradually phases out until January 1, 2024, when tipped employees must receive the full minimum wage, adjusted for inflation.⁵ The Executive Order, which was first announced on President Biden's second day in office, follows (and supersedes inconsistent provisions of) Executive Order 13658 (EO 13658) issued in 2014 by the Obama Administration.

This minimum wage increase could have significant implications for prime contractors and subcontractors throughout the supply chain and across all industries—including aerospace, defense, pharmaceutical, healthcare, technology, and energy—particularly those that are small businesses. It is therefore important for contractors, subcontractors, and others subject to the Executive Order to assess its applicability, consider the financial impacts for existing contracts and options for addressing those impacts, and account for the increase in compensation costs when estimating labor rates and establishing fixed prices for future contracts and modifications. The Executive Order requires the Department of Labor (DOL) to issue implementing regulations by November 24, 2021, and the Federal Acquisition Regulation (FAR) Council and other relevant agencies to issue implementing regulations within 60 days thereafter.⁶ While we await those regulations, the preexisting regulations implementing EO 13658 provide insight into what contractors can expect.⁷

Applicability

The Executive Order does not define contracts or contract-like instruments. DOL regulations implementing EO 13658 define these terms broadly to encompass “an agreement between two or more parties creating obligations that are enforceable or otherwise recognizable at law.”⁸The definition covers contracts and subcontracts (regardless of tier), whether written or verbal, including procurement contracts, other transaction agreements (OTAs), leases, cooperative agreements, provider agreements, service agreements, licenses, and permits.⁹ Notwithstanding this broad definition, not all contracts and contractor employees are subject to the new minimum-wage requirements, just as not all contracts and contractor employees have been subject to the existing requirements. Determining whether the minimum wage requirement applies to a particular contract and particular contractor employee depends on numerous factors, as discussed below.

Implementation Timeline: The Executive Order mandates the new $15.00 per hour minimum wage for (1) new agreements entered into on or after January 30, 2022, and (2) agreements where the contracting officer exercises an option period or renews or extends the contract on or after January 30, 2022.¹⁰ It specifically exempts agreements that were awarded pursuant to a solicitation issued before January 30, 2022 and within 60 days of the promulgation of applicable regulations implementing the Executive Order.¹¹ Although not required, the Executive Order nevertheless encourages agencies to apply the $15.00 minimum wage to exempt agreements.¹²

Covered Contracts: As with EO 13658, an agreement is subject to the new minimum wage requirements only if it is: (1) for services or construction; (2) covered by the Service Contract Act¹³ (also known as the Service Contract Labor Standards); (3) for concessions;¹⁴ or (4) for services provided to federal employees, their dependents, or the general public on federal property or lands. The Executive Order does not apply to contracts subject to the Walsh-Healey Public Contracts Act.¹⁵ The Executive Order revokes the Trump Administration’s EO 13838, which removed mandatory federal contractor wage minimums for certain recreational services and equipment rental contracts on federal land.¹⁶ That means individuals performing outfitting and guide services on federal land must be compensated as any other federal contracting employee under the Executive Order.

Covered Employees: In identifying employees covered by the new minimum wage requirement, the initial inquiry is whether the employee is “working on or in connection with” a Covered Contract.¹⁷ EO 13658 included an identical limitation, which the DOL interpreted as limiting the minimum wage requirement to employees “performing the specific duties called for by the contract or other services or work necessary to the performance of the contract.”¹⁸ Consistent with E.O. 13658, the minimum wage applies to employees who are subject to the Fair Labor Standards Act of 1938 (FLSA), the Service Contract Act (aka Service Contract Labor Standards) (SCA)¹⁹, or the Davis-Bacon Act (“DBA”)²⁰. Assessing whether employees are subject to the FLSA, SCA or DBA requires an assessment of the contracts as well as whether specific employees qualify as bona fide executive, administrative, or professional employees, or fall under other exemptions. Those determinations require thoughtful analyses of each employee’s job responsibilities and qualifications, among other factors.²¹ For employees working on both covered and non-covered contracts, the employee is entitled to the minimum wage only for time spent performing covered contracts (assuming DOL issues regulations consistent with those implementing EO 13658).²² Contractors and subcontractors should document these assessments and conclusions to ensure consistency across labor categories and similarly situated personnel as well as to support the company during any audit or other inquiry.²³ Consistent with EO 13658, the minimum wage requirement applies with equal force to contractor employees with disabilities, who, under certain circumstances, may be otherwise exempt from general minimum wage requirements under Section 14(c) of the Fair Labor Standards Act of 1938.

Implications

The direct implications of the minimum wage increase are fairly straightforward—contractors and subcontractors will be required to pay the minimum wages to covered employees no later than January 30, 2022. The Executive Order, however, raises several questions, including whether prime contractors and subcontractors can recover the increased labor costs when the clause is first implemented as well as when the minimum wage is adjusted annually for inflation, whether prime contractors and subcontractors can recover associated labor costs (e.g., payroll taxes calculated as a percentage of compensation), how the increases may affect profit and other indirect costs, and how the increase will affect pending bids and proposals. As an overarching point, FAR 52.222-55 currently requires (and we expect any revisions will continue to require) prime contractors to consider subcontractor requests for adjustments.²⁴

Existing Contracts: As discussed above, the minimum wage increases are not required to be incorporated into existing contracts until the contracting officer exercises an option or extends or renews a covered contract, imposing the requirement through a modification. The Executive Order, however, makes clear that contracting officers may choose to impose the minimum wage increases earlier. Regardless of when the contracting officer imposes the requirement, the minimum wage increase would constitute a change to the contract,²⁵ and the contractor should follow procedures set forth in the affected contract, likely in the applicable changes clause, to provide notice and seek relief. Changes to non-commercial item contracts may require the contractor to submit a request for equitable adjustment.²⁶ Commercial item contracts usually can only be changed through bilateral written modifications, providing contactors with the opportunity to request price adjustments at the time the contract is revised to incorporate new contract clauses implementing the Executive Order.²⁷

Future Contracts/Pending Bids And Proposals: Any bids or proposals submitted after April 27, 2021, (the Executive Order date of issuance) should account for minimum wage increases in labor rates and firm-fixed prices on at least a conditional basis. Recognizing that future inflation-based changes are unknown, offerors could factor expected changes into labor rate escalations. Alternatively, offerors could account for the $15.00 minimum wage and submit annual requests for equitable adjustments. For bids or proposals currently pending, agencies will need to adjust the terms and conditions reflected in the solicitation to account for the new minimum wage and seek offerors’ acceptance of those terms and conditions. The awardee will have to accept the minimum wage requirement but may try to negotiate cost/price adjustments prior to executing the contract.

Recovery of Related Costs: The existing FAR clause implementing E.O. 13658, FAR 52.222-55, limits contract adjustments to compensating the contractor for increased labor costs resulting from minimum wage increases and associated labor costs, including adjustments to social security and unemployment taxes as well as workers' compensation insurance.²⁸ This clause expressly prohibits changes to general and administrative (G&A) costs, overhead or profit.²⁹ Contractors performing fixed-price, labor-hour, and time-and-materials contracts are not able to recover G&A costs, overhead, or profit. For cost-reimbursement contracts, however, whether and how the increase in direct labor costs will impact indirect costs and fee will depend on the contract's terms and fee type. Contractors will generally be able to recover profit (e.g., fixed fees) calculated as a percentage of direct costs, including increased labor costs, as well as indirect costs calculated by applying indirect rates to direct costs. Although the Executive Order is silent on this issue, we expect the implementing regulations and contract clause will similarly limit recovery for impacts to G&A costs, overhead, and profit margins. Notwithstanding these limitations, whether contractors can recover increased G&A costs, overhead or profit will depend on the contract type.

Ripple Effects: Increases in the minimum wage often lead more senior employees to request raises commensurate with their seniority or more advanced positions. In this way, a minimum wage increase can reverberate throughout a firm’s employee cost structure. Whether contractors may recover these costs will depend on the terms of the contract at issue. Contractors with cost-reimbursement contracts will be best positioned to recover additional labor costs, though they should be mindful of FAR 31.205-6, Compensation for personal services, which provides principles for determining the allowability of compensation of personal services. Under any contract—particularly where the employer cannot recover these additional compensation costs—the contractor will need to manage recruiting, retention, and employee satisfaction with financial impacts. Prime contractors and higher-tier subcontractors should also assess how terms of subcontracts, which do not always mirror prime contract provisions, treat compensation increases for other employees.

Annual Inflation Adjustments: Like EO 13658, the Executive Order requires the Department of Labor to adjust the minimum wage upward annually for inflation.³⁰ The inflation metric is the annual percentage increase in the Department of Labor, Bureau of Labor Statistics Consumer Price Index for Urban Wage Earners and Clerical Workers, rounded to the nearest $0.05.³¹For both non-commercial item and commercial item contracts, the contractor agrees in advance through FAR 52.222-55 to increase minimum wages to account for annual adjustments due to inflation. Assuming the FAR Council retains FAR 52.222-55 in the final rule implementing the Executive Order, the contractor may submit a request for equitable adjustment after the annual adjustment takes effect. Prime contractors should remember that subcontractor equitable adjustments flow through the prime contractor and are governed by the terms agreed to between the parties.

If you have any questions about the topics discussed in this Advisory, please contact your Arnold & Porter attorney or any of the authors.

© Arnold & Porter Kaye Scholer LLP 2021 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.