California Supreme Court Narrows The Inside Sales Exemption

In an adverse decision for employers with commissioned inside sales employees, the California Supreme Court decision reached this week in Peabody v. Time Warner Cable, Inc. could result in employee classification headaches for employers as well as an increase in wage and hour class actions. The case involved a lawsuit by Susan Peabody, a former commissioned salesperson of Time Warner Cable. She sued Time Warner on behalf of herself and a putative class of similarly situated employees, claiming that Time Warner violated California’s overtime exemption rules by not paying commissioned employees more than one and one-half times the minimum wage during every pay period.

In California, employers are not required to pay overtime compensation to commissioned employees, such as vehicle salespersons, as long as the employees earn wages in excess of one and one-half times the minimum wage. To qualify for the overtime exemption, more than one-half of the employee’s compensation must be commissions earnings. What was not clear prior to this decision, or at least had not been decided by a court, was whether the one and one-half times the minimum wage payment had to be made during the period in which it was earned.

In Peabody, there was no dispute that plaintiff regularly worked 45 hours per week and was not paid overtime. Time Warner paid Ms. Peabody a salary of $769.23 every two weeks, which is the equivalent of $9.61 per hour, assuming a 40-hour workweek. In addition, Time Warner paid her a commission on a monthly basis. Ms. Peabody argued that because she was paid $9.61 per hour, instead of a rate in excess of $12 per hour (one and one-half times the then minimum wage of $8 per hour), on those pay periods which did not include commissions payments, she failed to qualify for the commissioned sales overtime exemption. Time Warner, on the other hand, argued that the monthly commission payments should be attributed to the weeks of the month in which they were earned, and not to the pay periods in which they were paid. For example, Time Warner argued that the $2,041.33 in commissions paid to Ms. Peabody on November 26, 2008, should be attributed to the four workweeks of October 2008, in which she had already been paid $1,538.46, resulting in an hourly wage much higher than $12 per hour.

The case was initially filed in state court; however, Time Warner removed the matter to federal court and won a summary judgment motion. Plaintiff appealed to the United States Court of Appeals for the Ninth Circuit. The Ninth Circuit determined that there was a lack of clear precedent over the question of whether employers could allocate commission payments over the period of time they were earned, and requested that the California Supreme Court decide the issue. The California Supreme Court cited to the commission employee exemption requirements identified by the Division of Labor Standards Enforcement (DLSE), the California agency charged with enforcing labor laws and the Industrial Welfare Commission wage orders, and specifically cited to the DLSE stated requirement that the payment of the earnings of more than one and one-half times the minimum wage must be made in each pay period. The Supreme Court stated that the DLSE’s enforcement policies are not entitled to deference, but that the DLSE’s interpretation of the California commissioned overtime exemption law is the correct one.

The Court thus held that for the overtime exemption to apply, employees must be paid in excess of one and one-half times the minimum wage each pay period. An employer may no longer attribute commission wages paid in one pay period to the other pay periods in order to satisfy the compensation requirement.

This important holding has now cleared this issue; however, it also comes with new accounting and monitoring burdens for those employers that were following the Time Warner commission payment model. Further, this holding will now provide ammunition to plaintiff attorneys to file misclassification cases or to add this claim to existing cases. It is important for employers using the commission overtime exemption to take note of this decision and review their pay policies in order to make sure that they are complying with the law’s requirements.