Understanding Conflict of Interest – Ask #HR Bartender

Sharlyn Lauby

25 Jan 2015

There are times when a situation just doesn’t seem right, but we really don’t know the appropriate next step. Today’s reader note is an example.

I’m the office manager and human resources representative at our company. I have business and accounting training but no formal HR training. I’m hoping you can help me with this situation.

The CEO of our company has hired his daughter in the marketing department as a part-time employee. He doesn’t recognize or want to recognize exempt versus non-exempt status for anyone. The daughter was given a salary in the mid $30’s. However I recently discovered that she only works about 500 hours per year. This amounts to about $70/hour, which grossly exceeds other employee salaries.

I know this is a conflict of interest, but is it fraud? And what should I do about it?

I’m sure there’s more to this story than meets the eye. But the reader note does raise some valid questions. First, we need to define some terms. In my experience, I’ve seen situations get labeled as “conflict of interest” or “unethical” because they look wrong, but the situation doesn’t hold up to the definition. I did a quick Google search and here are some definitions:

Conflict of interest is a situation where the concerns of the two different parties are incompatible. It’s different than impropriety, which is a failure to observe standards or show honesty.

Fraud is the wrongful or criminal deception intended to result in financial or personal gain.

Now that we have some definitions in mind, I asked Jonathan Segal, a partner with the firm Duane Morris to share some insights. Jonathan has helped us before – this is one of my favorite posts. As always, please remember that his comments should not be construed as legal advice or as pertaining to specific factual situations.

If a CEO hires a family member, is that in itself a conflict of interest? Why or why not?

[Segal] It might come as a surprise, but it’s generally not unlawful to favor members of your immediate family and pay them more than they otherwise would receive. I should mention that a remote argument can be made that it violates the anti-discrimination laws in those states in which ‘family status’ is a protected status. The argument would be that those who are not ‘family’ get paid less. I don’t think that’s the intent of those laws, but the argument is there.

Of course, even if not discriminatory, that doesn’t mean paying family members more than they deserve is good business. It is not. It is bad for morale and sets a bad standard.

The reader raises an interesting issue as to fraud. It’s not fraud if there is no suggestion to a third party that the employee is working more than 500 hours per year. You can probably see where I am going with the following exception. There could be fraud if the employer warranted to a third party that the employee works more hours than she does, for example, in order to get benefits for her.

Regardless of whether or not this is a conflict of interest or fraud, this reader is concerned about the perception of inequity where the daughter is concerned. What should we keep in mind when it comes to working with family members?

[Segal] Your question highlights that there is always a potential conflict, actual or perceived, when dealing with family members. We always must be sensitive to the perceptions of others upon which the credibility of management is based, at least in part. And, this sensitivity should be heightened when dealing with family members.

The reader didn’t specifically ask, but they mentioned “exempt versus non-exempt” staff. For readers who might have questions about an employee’s exempt versus non-exempt status, what are your thoughts on employers not focusing on who’s exempt and who’s not?

[Segal] I think any employer who does not focus on this issue may end up buying a lawyer a summer home. There is substantial litigation under the Fair Labor Standards Act (FLSA) as to who is exempt. Plus, employers need to consider not only federal but also state law. Some states, such as California, have even more stringent requirements that must be met for an employee to be exempt.

The federal regulations can be found on the Department of Labor (DOL) website. The most common deal with the ‘white collar’ exemptions: See 29 CFR Part 541 – DEFINING AND DELIMITING THE EXEMPTIONS FOR EXECUTIVE, ADMINISTRATIVE, PROFESSIONAL, COMPUTER AND OUTSIDE SALES EMPLOYEES. But keep in mind that the rules of the game on this very important issue are about to change. Next month, the DOL will be proposing changes to the regulations that deal with when an employee may be exempt under the white collar regulations. We are not sure what the precise proposed changes will be but we know that the bar to be exempt will be raised. That may provide you with a great opportunity to raise this issue within your organization. There will be a lot of media reports on the substantial litigation in this area and how it will only increase.

Last question, is there anything else this reader should be concerned about?

[Segal] I suppose there could be other issues outside of the employment ‘space’. I’m not qualified to comment on them so I will just acknowledge they could exist and move on to one final point. Note that, if this were a public company, shareholders could challenge the over-payment as not acting in the best interests of the owners. But if it is a family business, the owners can overpay family members, although the Internal Revenue Service (IRS) could question the legitimacy of the tax deduction by the Company for the salary.

My thanks to Jonathan for offering some insights on this very challenging situation. As human resources professionals, it’s difficult to clearly identify whether situations are absolutely wrong or right. That’s why we need to ask questions and sometimes seek guidance from outside resources to make sure we do the right thing for everyone involved.

Image courtesy of Sharlyn Lauby