Supreme Court Reverses Gattuso

Labor Code § 2802 requires employers to indemnify employees for necessary expenditures incurred in discharge of their duties. What if an employer doesn't want to be bothered with that requirement, and instead, "ballparks" the usual costs and increases its workers' wages accordingly? In October 2005, in Gattuso v. Harte-Hanks Shoppers, Inc., the Second District Court of Appeal held that Section 2802 does not preclude employers from paying increased salaries or commissions "in lieu of" reimbursement for actual expenses, at least with respect to the expenses at issue in that case (automobile expenses). The Supreme Court granted review on the following issue:

Petition for review after the Court of Appeal affirmed orders in a civil action denying class certification. This case includes the following issue: May an employer comply with its duty under Labor Code section 2802 to indemnify its employees for expenses they necessarily incur in the discharge of their duties by paying the employees increased wages or commissions instead of reimbursing them for their actual expenses?

So, can the employer do this? The answer is, yes, but only if they do it carefully and they don't save underpay the employees by doing it that way.

Labor Code section 2802, subdivision (a), requires an employer to indemnify its employees for expenses they necessarily incur in the discharge of their duties. May an employer satisfy this statutory obligation by paying employees increased wages or commissions instead of separately reimbursing them for their actual expenses?

We conclude that an employer may satisfy its statutory reimbursement obligation by paying employees enhanced compensation in the form of increases in base salary or increases in commission rates, or both, provided there is a means or method to apportion the enhanced compensation to determine what amount is being paid for labor performed and what amount is reimbursement for business expenses.

As we will explain, our conclusion differs somewhat from that reached by the trial court and the Court of Appeal, and the differences affect the analysis of another issue presented here, whether the trial court abused its discretion in denying class certification. Accordingly, we reverse the Court of Appeal’s judgment and remand the matter to that court for further proceedings consistent with our opinion.

In essence, the court held that section 2802 does not prohibit an employer’s use of a lump-sum method to reimburse employees for work-related expenses, as long as (1) the amount paid is sufficient to actually fully reimburse employees for the expenses they necessarily incur, and (2) the reimbursement is accounted for separately from their regular income.

Regarding the first point, an employee must be permitted to challenge the lump-sum payment as being insufficient under section 2802, by comparing the payment with the amount that would be payable under either the actual expense method or the mileage reimbursement method. If the comparison reveals that the lump sum is inadequate, the employer must make up the difference.

As to the second point, an employer is not prohibited from combining wages and business expense reimbursements in a single enhanced employee compensation payment or from discharging its section 2802 business expense reimbursement obligation through an increase in salary or in commission rates, but the employer must provide some method or formula to identify the amount of the combined employee compensation payment that is intended to provide expense reimbursement. That method or formula must afford the employee (and state and federal officials) the ability to differentiate between wages and expense reimbursements. And a lump sum reimbursement formula does not violate Labor Code § 226, per se.

In light of the court's interpretation of section 2802, the trial court's denial of class certification was also reversed, and the case is to be remanded to the trial court for reconsideration of the class cert issues in light of the Supreme Court's ruling.

Harte-Hanks has taken the position that as to the members of this proposed class, it fulfilled its reimbursement obligation under section 2802 by paying them higher commission rates and higher base salaries than it paid to inside sales representatives. As we explained in the previous section, the validity of this claim will turn on the resolution of these questions: (1) Did Harte-Hanks adopt a practice or policy of reimbursing outside sales representatives for automobile expenses by paying them higher commission rates and base salaries than it paid to inside sales representatives? (2) If so, did it establish a method to apportion the enhanced compensation payments between compensation for labor performed and expense reimbursement? (3) If so, was the amount paid for expense reimbursement sufficient to fully reimburse the employees for the automobile expenses they reasonably and necessarily incurred? Neither the trial court nor the Court of Appeal framed the class certification issue in that way, and so neither court considered whether these inquiries are capable of resolution on a class-wide basis. Accordingly, the class certification issue is to be reconsidered upon remand.

We previously discussed the case here: "Supreme Court Appears Ready to Reverse Gattuso."

The court appears likely to hold that, to comply with this obligation by increasing compensation to cover expenses, there must be a specific allocation between expense reimbursement and other compensation; and in a dispute, the employer should be required to prove that the amount allocated to expenses exceeds the amount of actual expenses. Any other outcome would essentially permit employers to evade the legislature's objective under Section 2802 in almost any situation where the wages paid exceed the sum of an employee's expenses plus minimum wage. Harte-Hanks Shoppers, Inc.'s plan also unfairly saddled employees with additional tax obligations, since the reimbursements would have been fully taxable, but the expenses would have been subject to the two percent floor, and not available to all filers.

Once again, our friends in the audience brought us accurate information. Thanks, all.

Comments

[James Peters]

The only question I still have about the decision is how these plans are administered for withholding/income tax purposes.

I assume that the employer has to withhold from the amount of the “lump sum” in excess of actual expenses incurred each pay period, but if they’re not keeping track then how do they know what that amount is?

The other side of the coin is if there is withholding on the full amount of the “lump sum” component, in which case the employee is getting cheated, since the difference is not “income,” so how can there be withholding for income, SDI, social security, etc. taxes?

These are probably all rhetorical questions that will have to be worked out by the courts or DOR, but it is interesting how the Court glossed over this issue in Gattuso.

My take on Gattuso:
http://www.calemployeerightsblog.com/2007/11/06/california-supreme-court-decides-lump-sum-expense-reimbursement-is-ok/

Keep up the good work!

James Peters
California Employee Rights Blog

[kent]

are employers now responsible for replacing employees’ cars stolen on business trips?

formerly, the “mileage is good enough” theory covered the employee’s losses (as well as gas, oil, tires, belts, etc.) if a car was damaged or stolen while the employee was working. now, this opinion suggests that actual expenses of losses incurred while working must be paid, and mileage won’t cut it.

so, how do you “apportion” a loss between business and personal use if the car is stolen on a business trip and at a location where the employee would never be on a personal trip? isn’t it all a “business loss” (as well as the employee’s nice leather jacket and iPhone that were on the front seat) that the employer must actually reimburse, under the Supreme Court’s opinion of 2802?

scary, if so.