California’s wage and hour rules already present a lot of traps and pitfalls for employers. To make matters worse, there seems to be a constant stream of changes to those rules generated by the California Legislature, local municipalities, or even the courts. In July, the California Supreme Court issued a decision that clarifies how commissioned employees must be paid in order to avoid paying overtime wages, but in so doing identified yet another potential trap for employers. For many, the ruling will require drastic changes to their payroll procedures and commission policies to bring their practices into compliance.  Before this ruling becomes an expensive  sinkhole for your payroll department, let’s see if we can help you make sense of the ruling, and provide some insight on how to navigate through the applicable rules.

The general rule is that commissioned employees are exempt from overtime as long as they make one and a half times minimum wage, and more than half of that employee’s compensation represents commissions.

In Peabody v. Time Warner Cable , Peabody was a commissioned employee who alleged she worked 45-48 hours per week but was never paid overtime.  She was paid $769.23 every two weeks-or the equivalent of $9.61 per hour based on a 40 hour work week-and paid commissions every other pay period.  Peabody claimed Time Warner should have paid overtime for the pay periods in which she wasn’t paid more than one and half times the minimum wage, including those pay periods when she received base wages but no commissions.

Time Warner Cable did not dispute that Peabody regularly worked 45 hours per week and was paid no overtime.  It asserted that it had properly treated Peabody as exempt because her monthly wages exceeded one and one half times the minimum wage.  Time Warner reasoned that employers are entitled to consider commissions paid over an entire month in determining an employee’s right to overtime pay in any particular bi-weekly or semi-monthly pay period.

The California Supreme Court disagreed with Time Warner Cable.  The Court held that an employer may not attribute commission wages paid in one pay period to other pay periods in order to satisfy the minimum earnings requirement of the exemption. Wages must be determined separately for each pay period.  To allow otherwise would be inconsistent with Labor Code §204 to defer wages and also Labor Code §226 that requires proper itemized wage statements during each pay period.

Of perhaps greater importance, the Supreme Court clarified the frequency by which employers must pay commissions, which could prove problematic for many employers.  The Court observed that the definition of “wages” includes amounts paid on a “commission basis.” It then concluded that, “all earned wages, including commissions, must be paid no less frequently than semi-monthly,” or at least twice each month unless statutorily excepted such as employees of licensed vehicle dealers and employees covered by collective bargaining agreements.  Further, as long as the commission is “earned” in the pay period, it must be paid in that pay period.  An employer cannot delay payment until the end of the month to true-up any advances on commission payments.

Employer Actions

Given the Supreme Court’s observations and holdings, employers who want to treat their commissioned employees as exempt from the overtime rules should do the following:

  • Review commissioned employee policies to ensure that during every pay period, each commissioned employee is paid at least $13.50 per hour or one and half times the $9.00 minimum wage.  To control cost increases, the employer can consider wages to be a credit against future commissions.  Employers should also note that effective January 1, 2016, the California minimum wage increases to $10.00 per hour;
  • Construct commission policies that clearly state when the commission is “earned,” which allows enough time for calculation and payment of the commission in the pay period in which it is “earned;” and,
  • Review closely how commission-only employees are paid to ensure compliance with the minimum pay requirements during non-productive periods.