By  David  Goldman

[Originally published in HR West, September 2005]
What happens when an employee quits or is fired and owes his employer money?   Can the employer simply deduct the money owed against wages payable to the employee?   Historically, employers have set off money owed by employees against wages to be paid, but many statutes and judicial decisions limit the employer's right to do so.   Now, a recent California Court of Appeal decision has held that sales commissions paid by the employer to the employee could be charged back against future wages when the "commission" was paid before it was actually earned.   Steinhebel v. Los Angeles Times Communications, (2005) 126 Cal. App. 4th 696 ("Steinhebel").

In Steinhebel, a telesales employee at Los Angeles Times Communication (the "Times") had signed a commission agreement that he would be paid a commission for each newspaper subscription sold if the customer kept the newspaper subscription for at least 28 days.   In practice, after the sale was verified, the Times would pay the commission to a salesperson on the next payroll date.   The commission agreement, nonetheless, provided that if a subscription was canceled before 28 days, "The amount advanced . . . will be deducted from your compensation payable [thereafter] . . .and you hereby authorize such deductions."  

When the Times charged back against Steinhebel's subsequent pay checks for canceled subscriptions, Steinhebel sued and claimed that the chargeback policy violated, among others, California Labor Code Section 221, which prohibits employers from collecting or receiving from employees any wages paid to employees.   The Court of Appeal determined that the payments Steinhebel and other employees received were merely advances, not earned commissions or wages, and therefore, the Times  chargeback policy did not violate California labor law.

Why is this case important?   Employers want certainty regarding when they can set off or chargeback against wages for money employees owe.   Informed employers know that California Code of Civil Procedure Section 487.020(c) prohibits the attachment of an employee's earnings, except in certain limited circumstances.   For example, deductions against wages, while not generally permissible, are permitted for deposits to banks, savings and loan and credit unions.   (Labor Code Section 213), payment of employment taxes, insurance premiums, employment benefits plan contributions (Labor Code Section 224) and wage assignments (Labor Code Section 300).   Also, California Industrial Welfare Commission Wage Orders, Section 8 (pertaining to cash shortages and breakages) and Section 9 (pertaining to uniforms, tools and equipment not returned) authorize employers to make wage deductions.   Yet, certain judicial decisions have raised questions regarding the legality of these or similar deductions.   See Barnhill v. Roberts and Saunders & Co. (1981) 125 Cal.App.3d 1 and Kerris Catering Service v. Dept. of Industrial Relations (1962) 57 Cal.2d 319.   Employers need clarity to know when they can and cannot set off or chargeback against wages for monies owed by their employees.   The Steinhebel case provides some guidance.

California Labor Code Section 221, for example, was enacted in 1937 to prevent kickbacks forced upon employees by their employers.   The Court of Appeal in Steinhebel rejected Steinhebel's claim that the Times violated Labor Code Section 221, or other legal prohibitions, and found the chargeback policy involved "advances," and not wages or commissions already earned and paid.   The Court of Appeal described its analysis as follows:

The essence of an advance is that at the time of payment the employer cannot determine whether the commission will eventually be earned because a condition to the employee's right to the commission has yet to occur or its occurrence as yet is otherwise unascertainable.   An advance, therefore, by definition is not a wage because all the conditions for performance have not been satisfied.
The Court of Appeal affirmed an earlier appellate court decision that allowed recovery of the excess of advances over earned commissions where the commission agreement specifically provided the employee would have weekly advances that would be charged against his commissions.   Korry of California v. Lefkowitz (1953) 131 Cal.App.2d 389, 393.  

What can be learned from the Steinhebel case?   California employers that pay commissions or wages in advance, either on a routine or occasional basis, should have a written agreement signed by the employee expressly acknowledging that advances may be made to them.   Also, employers should require employees to expressly authorize in writing that employers may make deductions for advances when sales are not fully consummated.

This policy of "getting it in writing" might also be used if California employers occasionally allow their employees to take paid vacation time off before it actually earned.   While the area of vacation pay has many pitfalls for employers, getting an employee to acknowledge in writing that the paid vacation time is being received before it is actually earned (and, therefore, is really an advance of unearned vacation pay), may go a long way to establishing an employer's ability to set off paychecks in the future, if it is never earned.

The laws regarding chargebacks and set offs still lack clarity, and substantial exposure to liability for waiting time penalties (i.e., see Labor Code Section 203) remains, even after the recent Steinhebel decision.   Therefore, it is still prudent for employers to seek legal counsel before deciding whether or not to set off or chargeback debts owed by employees against their paychecks.