In a decision that should catch the attention of employers throughout California, the California Supreme Court, following guidance of the California Division of Labor Standards Enforcement (“DLSE”), unanimously held that employers who pay fixed, flat sum bonuses to hourly employees must use an employee friendly calculation to determine overtime pay. Alvarado v. Dart Container Corp. of California S232607 (3-5-18). The Court rejected the formula used under federal law that tends to favor employers. Further, the Court held that the formula it adopted would apply retroactively to California employers.

Employers who pay flat sum bonuses to employees must make sure that they are correctly calculating employees’ regular rate of pay and take immediate action. Not sure if your bonus is a flat sum bonus? According to the Court, a flat sum bonus is not a function of the number of hours an employee has worked unlike production bonuses or commissions. A flat sum bonus is any bonus that is a fixed amount — such as an attendance bonus in a set amount for working on a particular day or a safety bonus of a fixed amount if there are no safety issues.

Background

Dart employed Hector Alvarado as an hourly employee for approximately sixteen months. In addition to a regular hourly rate, Dart paid Alvarado and all of its hourly employees a $15 “attendance bonus” each time they worked a full weekend shift. The additional money was paid regardless of whether an employee worked overtime that week; the bonus was paid as long as the employee worked and completed a weekend shift.

In California, employees must be paid 1.5 times their “regular rate” of pay for any hours worked in excess of eight in a day, 40 in a week, or for the first eight hours on the seventh consecutive day worked in a work week. Alvarado argued that the attendance bonus needed to be factored into his regular rate of pay and the parties disputed the appropriate formula for factoring the attendance bonus into the regular rate of pay.

In calculating and paying Alvarado and his coworkers for their overtime hours, Dart followed federal guidelines for bonus calculations, which were calculated using a four-step process, as follows: (1) First, Dart would multiply the number of overtime hours worked in a pay period by the straight hourly rate, resulting in the employee’s base hourly pay for overtime work. (2) Then, Dart would add the total amount owed in a pay period for regular non-overtime work, plus any non-hourly extra pay owed to the employees including attendance bonuses, plus the base hourly pay, calculated above, and divide by the total hours worked, including overtime, resulting in the regular rate of pay. (3) Then, Dart would multiply the regular rate of pay by the total number of overtime hours, and then divide that in half. This is what Dart called the “overtime premium.” (4) Finally, Dart would add the base hourly pay (from step one) to the overtime premium (from step 3) to get the total overtime compensation for the pay period. (See Example 1 below, of calculations using the federal guideline).

Alvarado filed a putative wage and hour class action against Dart. Among the claims that Alvarado asserted was his disagreement with the methodology used by Dart in calculating the overtime rate paid to him and to his coworkers. Alvarado argued that the appropriate approach was one adopted by the DLSE in its Enforcement Manual, which involved a three-step approach, outlined as follows. (1) First, calculate the overtime compensation attributable only to an employee’s hourly wages by multiplying the employee’s hourly rate by 1.5 and then by the number of overtime hours worked. (2) Next, calculate the overtime premium only attributable to the employee’s bonus, by calculating the bonus’ per-hour value (based on the number of non-overtime hours worked) and then multiplying that value by 1.5 and by the number of overtime hours worked. (3) Finally, Alvarado advocated that these amounts should be combined. (See Example 2 below, of calculations using the DLSE’s flat sum bonus guideline).

Example 1 (See Code of Federal Regulations, Title 29, Section 778.110(b)). In this example, the employee works 46 hours during the week, receives a bonus for $46 attributable to that week, and receives $12 per hour before any adjustment for the bonus.

Step 1: First, multiply the number of overtime hours worked in a pay period by the straight hourly rate, resulting in the employee’s base hourly pay for overtime work.

$12 x 6 overtime hours = $72

Step 2: Then, add the total amount owed in a pay period for regular non-overtime work, plus any non-hourly extra pay owed to the employees including attendance bonuses, plus the base hourly pay, calculated above, and divide the sum by the total hours worked, including overtime, resulting in the regular rate of pay.

$46 (bonus) + $480 ($12 x 40 hours) + $72 = $598

$598 / 46 hours = $13 per hour

Step 3: Then, multiply the regular rate of pay by the total number of overtime hours, and then divide that in half, resulting in the “overtime premium.”

$13 x 6 (overtime hours) x 0.5 = $39

Step 4: Finally, add the base hourly pay (from step one) to the overtime premium (from step 3) to get the total overtime compensation for the pay period.

$72 + $39 = $111

Example 2 (See DLSE Enforcement Manual Section 49.2.4.2). Using the same numbers as the example above, the overtime due on the bonus would be calculated as follows.

Step 1: First, calculate the overtime compensation attributable only to an employee’s hourly wages by multiplying the employee’s hourly rate by 1.5 and then by the number of overtime hours worked.

$12 x 1.5 x 6 = $108

Step 2: Next, calculate the overtime premium attributable only to the employee’s bonus, by calculating the bonus’ per-hour value (based on the number of non-overtime hours worked) and then multiply that value by 1.5 and by the number of overtime hours worked.

$46 / 40 = $1.15 x 1.5 = $1.73 x 6 = $10.38

Step 3: Finally, these amounts should be combined to find the total overtime due.

$108 + $10.38 = $118.38

As these examples illustrate, the formula advocated by Alvarado and adopted by the California Supreme Court is more favorable to employees. The two different methods are distinguished by whether the bonus was allocated to all hours worked or only to the non-overtime hours. Applying the formula that Alvarado argued for and that the California Supreme Court accepted more than triples the amount of overtime due on the bonus ($3.00 versus $10.38) in the examples above.

The Supreme Court’s Analysis The Court focused on one critical disagreement, namely whether the bonus is treated as if it were earned throughout the entire pay period (including the overtime hours) or whether the bonus is treated as though it were earned throughout only the non-overtime hours of the pay period. The Court found it appropriate to follow the language of the DLSE Manual, at section 49.2.4.2, despite Dart’s argument that the Manual was a void underground regulation. The Court actually agreed with Dart’s position that the Manual was not law, but nonetheless found that the DLSE Manual could serve as non-binding guidance for the Court in looking at these issues, and chose to follow that guidance.

The DLSE Manual states: If the bonus is a flat sum, such as $300 for continuing to the end of the season, or $5.00 for each day worked, the regular bonus rate is determined by dividing the bonus by the maximum legal regular hours worked during the period to which the bonus applies. This is so because the bonus is not designed to be an incentive for increased production for each hour of work; but instead is designed to insure that the employee remain in the employ of the employer.

The Court found direction from “two overarching interpretive principles,” The first is California’s policy favoring an eight-hour work day and a 40-hour work week, discouraging employers from imposing work in excess of those amounts. The second is that the State’s labor laws are to be construed in favor of worker protection. In doing so, the Court determined that since the flat sum bonus was payable even if the employee worked no overtime during each pay period, it should be treated as being earned by only the non-overtime hours in a pay period. Therefore, the bonuses per-hour value should be solely a function of non-overtime hours.

In making such a bold determination, the Court rejected the federal formula that Dart had been using, thus, clearly departing with federal law regarding the calculation of regular rate of pay when bonuses are at issue and adopting a stricter pro-employee California formula. The Court went even further by holding that this formula applied retroactively and rejected Dart’s request that if the DLSE formula was adopted, that it be adopted prospectively only.

The Court’s ultimate conclusion was that the flat sum bonus 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.

What This Means for Employers

The Dart case is only one of the many wage and hour issues that plague California employers. Like Dart, these wage and hour cases seek to recover past wages and carry hefty penalties. Employers who pay bonuses, whether flat sum or otherwise, would be wise to review their bonus programs with experienced counsel to ensure that bonuses are properly categorized and appropriately factored into the rate of pay.

Given the retroactive application of the holding of Dart, it is imperative that employers take immediate steps to calculate overtime pay rates for flat sum bonuses consistent with the Supreme Court decision, and not by federal FLSA standards. Further, employers must recognize that because the decision is retroactive, past practices inconsistent with the approach announced in Dart may give rise to potential liability for unpaid wages, penalties and other damages.

Even though the Dart decision was limited to flat sum bonuses, and specifically carved out non-hourly bonuses tied to production or commissions, it is anticipated that employees will seek to have the courts broadly construe and apply the holding of Dart.