SUPREME COURT DECISION REQUIRES EMPLOYERS TO PROMPTLY PAY AND REPORT MISSED-BREAK PREMIUMS ON PAY STUBS

California’s meal and rest period rules have been the subject of intense debate and judicial analysis for more than a decade. The Supreme Court has issued three important decisions in the past 18 months that reshape the rules in this area. Every California employer should understand and respond to the lessons taught by these cases.

On May 23, 2022, the Supreme Court issued its most recent pronouncements in the unanimous decision in Naranjo v. Spectrum Security Services, Inc., __ Cal. 5th __(2022). The decision is extremely unfavorable for employers and will spark even more meal and rest period litigation. It examined California’s rules regarding the payment of “premiums” for missed, short, and late meal and rest periods, the obligation to pay such premiums promptly when an employee’s job ends, and the need to list them on pay stubs.

1. The Issues Addressed By The Supreme Court

The Supreme Court described the primary issues in the case as whether the “premium” of an extra hour of pay for missed breaks constitutes “wages” that must be (1) reported on statutorily required pay stubs (called “wage statements”) during employment and (2) paid within statutory deadlines when an employee leaves the job. The court definitively concluded that the answer is yes. In fact, earned premiums must be reported even if they have not been paid. Although the extra pay is designed to compensate for the unlawful deprivation of a guaranteed break, “it also compensates for the work the employee performed during the break period.” The court determined that the extra pay thus serves the dual purpose of providing a remedy for the deprivation of breaks while simultaneously constituting wages subject to the same timing and reporting rules as other forms of compensation for work. It is anticipated that many employers will react to the decision by evaluating “auto-pay” systems that flag and trigger the payment and reporting of missed-break premiums in specific situations.

2. Background

Spectrum Security Services Inc. provides custodial services to federal agencies by transporting and guarding prisoners and detainees when they are outside custodial facilities. Gustavo Naranjo was a guard who was allegedly fired after leaving his post to take a meal break. He filed a class action alleging meal period violations under California law, including the Labor Code and applicable Wage Order. The complaint sought an additional hour of pay – commonly referred to as “premium pay” – for each day on which Spectrum failed to provide employees a legally compliant meal break.
The lawsuit alleged two Labor Code violations related to the company’s premium pay obligations. It asserted that Spectrum was required to (1) report the premium pay on employees’ wage statements under Labor Code Section 226 and (2) timely provide the pay to employees upon their discharge or resignation under Labor Code Sections 201 – 203.

a. On-Duty Meal Periods

An employer ordinarily must provide covered employees an off-duty meal period on shifts lasting longer than five hours. An exception to this requirement allows for “on-duty” meal periods if “the nature of the work prevents an employee from being relieved of all duty,” but only when “by written agreement between the parties an on-the-job paid meal period is agreed to.” Because Spectrum did not have a valid written agreement for on-duty meal periods for part of the class period, the trial court determined that Spectrum owed premiums to members of the class that it did not pay.

b. The Premium Pay Rules

Labor Code Section 226.7 added a new monetary remedy in 2001 for employees who are unlawfully denied a meal or rest break on a given day. It provides that such employees are due one additional hour of pay at their regular rate of compensation.

The Supreme Court recognized that the trial court had already found Spectrum liable for premium pay to employees required to work on-duty meal periods and that Spectrum neither paid the premium pay nor reported it as earned on employee pay stubs. It then posed two questions: First, when an employer unlawfully denies an employee a meal or rest period and thus becomes obligated to pay an extra hour’s pay, can the employer be held liable for waiting time penalties under Section 203 if it fails to pay any unpaid missed break amounts within statutorily mandated deadlines? Second, can it be held liable under Section 226 for wage statement violations if it fails to report that premium pay on statutorily required wage statements? The answer to both questions is yes. Notably, the Supreme Court determined that the missed-break premiums had been earned and thus had to be reported on wage statements even though they were unpaid.

c. The Extra Hour Of Pay Serves A Dual Function As A Remedy And As Wages

In answering the questions posed, the court creatively determined that the premium pay owed for a missed, late, or short meal period was both a “legal remedy” and “wages” under California law. It found the premium pay due for the deprivation of an off-duty meal period is certainly designed to compensate employees for hardships the Legislature concluded employees should not be made to suffer. “But when these hardships include rendering work, the pay owed can equally be viewed as wages.” The conclusion that the premium pay is both a statutory remedy and a “wage” acted as the linchpin necessary to the Supreme Court’s rulings regarding the employer’s final pay obligations and obligation to list the premium on pay stubs.

3. The Holding Conflicts With Earlier Decisions

While creative, many will view the Supreme Court’s analysis as extremely troublesome in several ways. First, it reflects a carefully crafted sculpture of California law that deviates from the picture that many courts and practitioners thought was reflected in earlier cases, including the Supreme Court’s decade-old decision in Kirby v. Imoos Fire Protection, Inc., 53 Cal. 4th 1244 (2012). There, the Supreme Court considered whether an action for premiums under Section 226.7 was an action brought for the “nonpayment of wages” for purposes of attorney fee-shifting under Labor Code Section 218.5. The Supreme Court explained in Kirby that it was not an action for the nonpayment of wages. Yet, Naranjo now finds that the premiums are considered wages for some purposes and a remedy for the nonpayment of wages for other purposes, such as the statute regarding attorney’s fees for wage claims.

Despite the obvious inconsistencies within Kirby and Naranjo, it is now clear under Naranjo that premium pay is considered wages for purposes of addressing the final pay obligations under Labor Code Sections 201–203 and the pay stub reporting rules in Section 226.

4. Naranjo Could Set In Motion Multiple Theories Of Liability Based On A Single Error

The court’s conclusion places unfair and unreasonable burdens on small and large employers that create huge potential exposure under multiple theories that will spawn even more class and PAGA actions throughout the state. This can be illustrated by a simple example. Assume an employer schedules an hourly employee for a 30-minute meal period but interrupts the employee’s meal period after 29 minutes. A violation may be found because the meal period is a minute short of the 30-minute standard in Labor Code Section 512. This can set into motion a nest of overlapping and complicated rules. Assume further that the employer does not pay the premium of an extra hour of pay for the one-minute violation or list that unpaid premium on the employee’s pay stub.

Under California law, the employer may face several interrelated claims that include (1) a claim for 30 minutes’ pay at the employee’s base rate for the short meal period, (2) a claim for a premium equal to one hour of pay at the employee’s regular rate for the noncompliant meal period, (3) a claim for penalties under the pay stub statute (Labor Code Section 226), (4) a claim for penalties under the Private Attorneys General Act (Labor Code Section 2699), and (5) a claim for 30 days’ waiting time penalties under Labor Code Section 203.

An employee whose base rate is $20 an hour would be owed $20 for an hour of work. Yet this employee could conceivably obtain thousands of dollars for losing just one minute of the 30-minute meal period. This does not yet consider the costs and attorney’s fees the employer may face in defending the claims. While liability for these claims is certainly not automatic and the employer may be able to raise a variety of defenses to avoid liability, this is why it has become open season on employers. Small companies are particularly vulnerable to such claims because they have no realistic chance to understand California’s shifting and complicated standards, let alone the financial resources to survive litigation of these esoteric rules.

5. The Features Of Naranjo Addressing Pay Stubs

a. Missed Meal And Rest Period Premiums Must Be Listed

A significant portion of the Naranjo decision addressed employer’s obligations under Labor Code Section 226, the statute governing “wage statements,” which are commonly referred to as pay stubs. After briefly reviewing the history of Section 226, the Supreme Court determined that the law requires that an employer report both “gross wages earned” and “net wages earned.” To enforce this provision, the Legislature has provided that employees who are injured by a “knowing and intentional failure by an employer to comply with” this requirement may recover substantial remedies. The remedies can equal the greater of all actual damages or $50 for the initial pay period in which a violation occurs and $100 per employee for each violation in a subsequent pay period, up to $4,000, as well as costs and attorney’s fees.

The Supreme Court considered whether the requirement that “wages” be reported extended to payments under Section 226.7 for missed breaks. It began this discussion by explaining that premium pay is fairly understood as falling within the Labor Code’s general definition of wages. Citing General Atomics v. Superior Court, 64 Cal. App. 5th 987 (2021)(wage statement that shows overtime hours worked and overtime premiums complies with Section 226), it determined that various sorts of pay that compensates employees for their work must be reported.

In sum, the court held that an employer’s obligation under Section 226 to report wages earned includes an obligation to report premium pay for missed breaks. Further, a failure to report premium pay for missed breaks can support monetary liability for failure to supply an accurate itemized statement reflecting an employee’s gross and net wages earned.

A key portion of the decision addressed the perplexing question of whether an employer must sometimes report premiums on pay stubs that were technically earned but unpaid. This issue surfaced because the trial court determined that Spectrum owed premiums for the on-duty meal period violations, but never paid those premiums or reported them on the employees’ pay stubs. The Supreme Court rejected Spectrum’s argument that it was not obligated to report amounts it did not pay on the pay stubs, citing to the statutory requirement in Section 226 that employers must list “gross wages earned” and “net wages earned.” This requires the employer to include “all amounts earned and now owing, not just amounts actually paid. . . . A statement that conceals amounts earned, on the ground that they also were not paid, is not an accurate statement, and it does not comply with the statute.” In short, the Supreme Court relied on the fact that the premiums were wages that had been earned and thus had to be reported.

Significantly, the court pointed out that penalties for failing to comply with the statutory rules can be imposed only if the conditions set out in Labor Code Sections 203 and 226 are met. For example, the failure to pay wages in a timely manner at the time an employee leaves a job must be “willful” to lead to waiting time penalties under Section 203, and a “knowing and intentional” violation of the pay stub statute must be found to impose penalties under Labor Code Section 226. The Supreme Court returned the case to the lower courts to resolve those issues.

b. The Significance Of The Maldonado Decision

The Supreme Court wrestled with the important court of appeal decision in Maldonado v. Epsilon Plastics, Inc., 22 Cal. App. 5th 1308 (2018), and its conclusion that penalties were not appropriate in that case under Section 226. It did not expressly disapprove of Maldonado’s conclusion, but confined it to its factual context, finding that Maldonado does not stand for the proposition that a recovery under Section 226 is unavailable “because employers are permitted to omit earned but unpaid wages.”

Instead, Maldonado determined that Section 226 penalties are not triggered because the plaintiff “employees could not show they were injured under section 226’s specific definition of injury, by the particular wage statement inaccuracies there at issue.” Stated differently, when the employee’s alleged injury is not caused by the particular pay stub flaw or inaccuracy asserted in the case, a Section 226 recovery should be unavailable. The Supreme Court explained that was not an issue in Naranjo where employees were clearly injured by the pay stub violation in dispute because they could not determine from the pay stubs (which failed to list the unpaid premium amounts) the correct wages to which they were entitled.

The Supreme Court appeared to leave intact the ability to defend a Section 226 claim under Maldonado by showing that the alleged “injury” was not caused by the specific type of pay stub violation at issue. It also left intact the ability to defend against Section 226 liability by showing there was no “knowing and intentional” violation. This underscores the importance of these two potential defenses to Section 226 liability for pay stubs. Employers can also seek to defend against Section 226 liability under Section 226(e)(3) if an error is not a “knowing and intentional failure,” but rather “an isolated and unintentional payroll error due to a clerical or inadvertent mistake.”

6. Prejudgment Interest

After addressing the final pay and pay stub issues raised in the case, the Supreme Court also resolved a dispute over the rate of prejudgment interest that applies to amounts due for failure to provide meal and rest breaks. It determined that the 7% default rate set by the state Constitution applies rather than the 10% rate used by the trial court.

7. Conclusion

The Supreme Court emphasized the limits of its holdings concerning Labor Code Sections 203 (waiting time penalties) and 226 (pay stubs). It concluded that missed-break premium pay is indeed “wages” subject to the Labor Code’s timely wage payment and pay stub reporting requirements. However, an award of waiting time penalties under Section 203 or wage statement penalties under Section 226 is only supported where the relevant conditions for imposing such penalties are met. For example, waiting time penalties under Section 203 are available when an employer “willfully” fails to pay final wages promptly, as set forth in Sections 201 and 202. And wage statement penalties can be imposed when employees suffer injuries as a result of a “knowing and intentional” violation of Section 226.

The Naranjo decision reshapes several features of the law and presents numerous challenges for California employers. Employers should discuss the implications of Naranjo with experienced legal counsel. Some employers may deem it prudent, for example, to consider the use of auto-pay systems that establish a system to flag and pay missed-break premiums when time records indicate a potential violation has occurred, as when a record reveals a late, short or missed meal or rest period. Programs can be devised to report premiums on pay stubs. In an effort to be conservative, some employers may design programs to “overpay” premiums, as when they include payment triggers that do not account for situations where employees are provided compliant meal and rest periods, but voluntarily choose to skip, delay or shorten them. In these instances, the Brinker and Donohue decisions of the Supreme Court recognize a possible defense to the obligation to pay premiums. Auto-pay systems may also address situations that arise when employees make errors on time records by neglecting to record or accurately record meal periods. Likewise, consideration should be given to situations when employees have lawfully waived their meal periods or have voluntarily agreed to an on-duty meal period in writing. (In Naranjo, the employer incurred liability because it failed to have valid written agreements for on-duty meal periods.)

8. Additional Resources

 

Attorney Richard J. Simmons of Sheppard Mullin has updated his extensive publication on meal and rest periods in light of the Supreme Court’s 2021 and 2022 decisions in Naranjo v. Spectrum Security, Ferra v. Loews Hollywood, and Donohue v. AMN Services. In addition to the detailed review of California’s unique rules, the new edition of the publication examines defensive practices and proactive strategies to satisfy California’s obligations. This includes a detailed discussion of compliance strategies and auto-pay systems. The book is entitled California’s Meal And Rest Period Rules: Proactive Strategies For Compliance (Eighth Edition). It will be available from Castle Publications, LLC in June and can be ordered now.

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About The Author

Richard J. Simmons is a Partner in the law firm of Sheppard, Mullin, Richter & Hampton LLP in Los Angeles. He represents employers in various employment law matters involving litigation throughout the country and general advice regarding state and federal wage and hour laws, employment discrimination, wrongful discharge, employee discipline and termination, employee benefits, affirmative action, union representation proceedings, and arbitrations. Mr. Simmons received his B.A., summa cum laude, from the University of Massachusetts, where he was a Commonwealth Scholar and graduated in the Phi Kappa Phi Honor Society. He received his J.D. from Berkeley Law at the University of California at Berkeley where he was the Editor-in-Chief of the Industrial Relations Law Journal, now the Berkeley Journal of Employment and Labor Law.

Mr. Simmons argued the only case before the California Supreme Court that produced a victory for employers and business in 2018. He was recently recognized as the Labor and Employment Attorney of the Year by the Los Angeles Business Journal and was inducted into the Employment Lawyers Hall of Fame. He has lectured nationally on wage and hour, employment discrimination, wrongful termination, and other employment and labor relations matters. He is a member of the National Advisory Board to the Berkeley Journal of Employment and Labor Law, published by Berkeley Law at the University of California at Berkeley. He was also appointed by the California Industrial Welfare Commission as a member of three Minimum Wage Boards for the State of California.