5 Considerations for California Employers Managing Bonus Pay

On July 15, 2021, in Ferra v. Loews Hollywood Hotel, LLC, the Supreme Court of California set forth a new rule requiring that premiums for meal, rest, and recovery break violations be paid at the regular rate of pay.

Many California wage and hour class actions and Private Attorneys General Act (PAGA) collective actions include allegations that employers failed to properly pay bonuses and calculate them using the regular rate of pay, particularly for overtime, sick leave pay, and now, under Ferra, for meal, rest, and recovery break premiums.

To help mitigate the growing risks related to bonus payments, California employers may want to consider the following when managing their bonus programs.

1. Defining Bonuses as Discretionary or Nondiscretionary

An employer may want to consider drafting a narrative that describes whether a bonus is discretionary, and therefore may be excluded from the regular rate of pay, or nondiscretionary, and thus must be included in the regular rate calculation.

According to the California Division of Labor Standards Enforcement’s (DLSE) Policies and Interpretations Manual, discretionary bonuses to be excluded from pay are those that are paid “in the nature of gifts made at Christmas time or on other special occasions, as a reward for service, the amounts of which are not measured by or dependent on hours worked, production, or efficiency.”

Other exclusions may also apply.

Nondiscretionary bonuses include payments that serve to incentivize employees to increase their productivity or remain employed with the company through a specific date. These bonuses must be included in the regular rate of pay.

2. Establishing Criteria for Nondiscretionary Bonuses

For nondiscretionary bonuses, an employer may want to consider drafting a further narrative that clearly describes the nature and purpose of the bonus. Such a description is helpful because, when it comes to incorporating bonus payments into the regular rate of pay, the type of bonus can make a big difference in whether and how it is included in the regular rate of pay.

A productivity bonus typically rewards an employee based on the productivity, quality, or efficiency of the employee’s work. Clearly established objectives may help the employee better understand what goals must be accomplished to earn the bonus.

Employers may also want to consider whether to include provisions covering employee eligibility if an employee resigns or is discharged for cause during the bonus period, or if the employee may receive a prorated payment if separated from employment during the bonus period.

Additionally, an employer may want to refrain from modifying bonus criteria within the bonus period or including forfeiture provisions that would require an employee to forfeit an earned bonus if the employee quits to work for a competitor. The employer may also designate the period covered by the bonus, including whether it covers the same week, or a longer period like a month, quarter, or year.

By contrast, a flat-sum bonus does not vary in amount or increase in any way with productivity or hours worked. In 2018, the Supreme Court of California in Alvarado v. Dart Container Corporation of California held that a flat $15 attendance bonus, which employees received when they worked weekend shifts and which did not increase based on the number of hours worked in the shift, was a flat-sum bonus.

The flat-sum bonus must be calculated into the regular rate at a higher multiple than a productivity bonus. As such, employers may consider basing flat-sum bonuses more directly on productivity.

Under that scenario, the flat-sum bonuses would vary based on productivity and hours worked. For a percentage-based bonus, the employer would award a bonus calculated as a percentage of an employee’s total wages—regular pay plus overtime pay.

This type of bonus increases both the employee’s regular rate of pay and overtime pay by the same percentage. Thus, the company is not required to recalculate the regular rate of pay for overtime purposes.

3. Training Payroll Teams on Regular Rate-of-Pay Requirements

Even if payroll vendors are tasked with calculating overtime pay, the employer may consider training its payroll team on how to make the proper regular rate calculations for productivity and flat-sum bonuses.

Documentation of such diligent, good-faith efforts may be helpful when defending against California Labor Code Section 203 claims, which require willful violations, and may justify discretionary reductions of PAGA penalties by courts.

Productivity Bonuses

Federal and California laws provide a formula for calculating overtime premiums owed for productivity bonus payments. The bonus amount is added to the employee’s other earnings, except for statutory exclusions, and the total earned is then divided by the total hours worked in the same workweek. The employee must be paid an additional amount of compensation for each workweek that he or she worked overtime at the rate of one-and-one-half times the hourly rate multiplied by the number of overtime hours worked in that week.

Flat-Sum Bonuses

In the Alvarado ruling, the California high court held that nondiscretionary flat-sum bonuses should be divided only by straight-time hours worked and then multiplied by one-and-one-half (or two in the case of double time) to determine overtime premiums. Thus, the overtime adjustment owed on flat-sum bonuses in California is three times more than that under the formula for productivity bonuses.

4. Reviewing Regular Rate-of-Pay Calculations

An employer may also want to consider designating a payroll professional to regularly review the inclusion of bonus payments in calculations of the regular rate of pay. The review may include the following:

• whether bonuses were properly included in overtime pay, particularly monthly, quarterly, or annual bonuses that required retroactive “true-up” payments;
• whether the bonuses were properly included in the regular rate for sick leave pay; and
• whether the bonuses were properly included in the regular rate for meal, rest, and recovery break premium payments.

5. Considering Retroactive “True-up” Payments for Meal, Rest, and Recovery Break Premiums

In Ferra v. Loews, the Supreme Court of California held that its ruling was retroactive. As such, employers may want to consider calculating and paying true-up payments at the regular rate for all premiums paid over the previous three years.

Following the recent Ferra decision, the Supreme Court of California is currently considering Naranjo v. Spectrum Security Services Inc., in which the court will determine whether premium payments also qualify as wages.

If premiums also qualify as wages that must be paid at the regular rate of pay, the failure to properly calculate and pay the regular rate for premiums may also risk additional final payment and wage statement penalties.

As such, now may be the time for employers to review their bonus and regular pay-rate policies.

A version of this article was previously published in Law 360.