California Supreme Court Clarifies Required Method for Calculating Overtime On Flat-Rate Bonuses (and it isn’t the FLSA method)

Earlier this week, the California Supreme Court issued an opinion in Alvarado v. Dart Container Corporation of California, holding that when an employee has earned a flat sum bonus during a single pay period, the employer must calculate the employee’s overtime pay rate using only the regular non-overtime hours worked by the employee during the pay period, not the total hours worked.

In California, the Division of Labor Standards Enforcement’s Enforcement Policies and Interpretations Manual (the “DLSE Manual”) sets forth a formula for calculating overtime due on non-discretionary bonus payments.  (Whether a bonus is “non-discretionary” is the subject of detailed FLSA regulations, which California generally follows.)  The DLSE overtime formula requires dividing the bonus by only the regular non-overtime hours worked in the pay period (i.e., not both the non-overtime and overtime hours), and using a multiplier of 1.5 to calculate the overtime premium due on the bonus.  In Tidewater Marine Western, Inc. v. Bradshaw, however, the California Supreme Court held that certain portions of the DLSE Manual were void as “underground regulations.”  Tidewater (1996) 14 Cal.4th 557, 571.

Dart Container paid a $15 “attendance bonus” to employees who worked on a Saturday or Sunday.  For employees who worked overtime during a pay period in which they received an attendance bonus, the company calculated overtime on the bonus by dividing the bonus by the total number of hours worked in the pay period (both non-overtime and overtime hours).  The company then used a multiplier of 0.5 to determine the amount the bonus added to the employee’s hourly overtime pay.

Employee-plaintiff Hector Alvarado contended Dart Container’s method of calculating overtime pay was illegal because it did not comply with the DLSE Manual.  Alvarado argued the company should have divided the bonus only by the number of non-overtime hours worked during the pay period, and should have applied a multiplier of 1.5.

Dart Container argued that because the DLSE’s method was void as an underground regulation, its method of calculating the overtime rate was proper because it complied with the FLSA, which permits an employer to divide a bonus by total hours worked and apply a 0.5 multiplier.  The Court of Appeal agreed with Dart Container, and held its method of calculating overtime was permitted under California law.

The California Supreme Court reversed, holding that even though the DLSE’s method is void as an underground regulation, it nevertheless is the proper method for calculating overtime on flat-rate bonuses.  The court reasoned that because California’s state policy is to discourage overtime, the method used by an employer must not encourage the use of overtime.  The FLSA formula does just that, because every hour of overtime worked incrementally decreases the regular rate, thereby incentivizing employers to require their employees to work more overtime.

Based on this reasoning, the court further held that only the non-overtime hours the employee actually works in a pay period should be the divisor, rather than all the potential full-time non-overtime hours in a pay period, and that the proper multiplier for the bonus premium is 1.5, not 0.5:  “We conclude that the flat sum bonus at issue here should be factored into an employee’s regular rate of pay by dividing the amount of the bonus by the total number of non-overtime hours actually worked during the relevant pay period and using 1.5, not 0.5, as the multiplier for determining the employee’s overtime pay rate.”

This decision firmly establishes the method employers must use to calculate a California employee’s overtime pay rate when the employee has earned a non-discretionary flat sum bonus during a single pay period.  Additionally, because the same policy consideration of discouraging overtime applies to other types of bonuses, the California Supreme Court’s reasoning very likely applies to bonuses that cover multiple pay periods, such as annual non-discretionary bonuses.  Employers should immediately review their payroll policies and practices to ensure their California employees receive overtime pay calculated in a manner consistent with this opinion.  In particular, multi-state employers that use centralized payroll systems must now ensure overtime pay for California employees is calculated using a different method than overtime pay for employees who work outside California.

One final note: Dart Container argued that if the California Supreme Court adopted the DLSE calculation method, its decision should be applied only prospectively because, up to now, no California statute, regulation or wage order clearly required that method.  The court declined the request, which effectively means the court’s decision applies retroactively.  Look for overtime litigation in California to spike in the near future.

Aaron Buckley
Paul, Plevin, Sullivan & Connaughton LLP
San Diego, CA

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