Five Reasons Why An Employer’s Unlimited Vacation Policy May Violate California Law

Employers are increasingly implementing “unlimited” vacation policies.  The gist of these policies—which may also be referred to as a “flex” or “untracked” or “discretionary” time off—is that an employee may take as many days of paid vacation as desired, subject to prior approval by a supervisor.  An employer that adopts an unlimited policy does not track the number of vacation days its employees use because those employees need not earn a vacation day in order to receive paid time off.  Nor does it increase employees’ final paychecks based on the number of unused vacation days as of the last day of employment.  By contrast, a standard accrued vacation policy requires employees to first serve the company for some period of time in order to use a day of paid vacation.  But employees who are subject to an accrual policy receive additional compensation if they fail to use the vacation days that they previously accrued.

Paying Employees For Their Unused Vacation Time Distinguishes Accrual And Unlimited Policies

Employers generally pitch unlimited or “flex” policies to employees as a perk.  In theory, employees can take a greater number of vacation days than they would if an accrual policy were in place.  Whether that’s true is practice likely varies on a case-by-case basis and is somewhat beyond the scope of this article.

The important fact is that employers secure enormous cost savings by adopting unlimited policies.  Those cost savings come about because employers take the position that an unlimited policy eliminates the need to pay employees for accrued but unused vacation days upon termination.  Their logic is that since no vacation days are accrued or tracked under an unlimited policy then there can be no payout for those that were not used.

In order to understand why the distinction between, on the one hand, “accruing” a day of paid vacation and, on the other hand, having the opportunity to take a day of paid vacation without an attendant accrual, it’s necessary to consider California’s unique law concerning vacation policies.  In California, vacation days that are formally accrued but unused “constitute deferred wages for services rendered.”  Suastez v. Plastic Dress-Up Co., 31 Cal.3d 774, 784 (1982).

The practical effect of this holding is that once an employee accrues a vacation day, it can’t be taken away.  Thus, a “use it or lose it” vacation policy that prohibits an employee from carrying over unused accrued vacation days from year-to-year and/or fails to provide additional payment for unused vacation days upon the termination of employment violates California law because it causes the forfeiture of vested wages.  Boothby v. Atlas Mechanical, Inc., 6 Cal. App. 4th 1595, 1602 (1992); Labor Code § 227.3 (an “employer policy shall not provide for forfeiture of vested vacation time upon termination.”)

Although the Labor Code does not permit a use it or lose it policy, an employer may “cap” the number of vacation days that an employee accrues.  For example, an employer’s policy might provide that employees accrue twenty vacation days per year and unused accrued vacation days carry over from year to year but an employee’s total accrual is capped at thirty days.  Under this policy, no additional days are accrued until the existing bank of accrued days is drawn down below thirty.  Henry v. Amrol, Inc., 222 Cal. App.3d Supp. 1, 5 (1990) (“There is an obvious difference between a policy which prevents additional vacation time from accruing after a certain amount of such time accrues and a policy which would divest an employee of already accrued vacation time”).

Is An Unlimited Vacation Policy More Like A “Use It Or Lose It” Provision Or A Capped Accrual Policy?

There is no published law considering how an unlimited vacation policy fits within the prohibition on forfeiture of vacation days set forth in Labor Code § 227.3.  Nor has a court considered whether an employer’s formally unlimited policy should be respected in the event the employer or its individual managers take various steps to restrict employees’ vacation usage.  But the issue is sure to come to a head as more and more companies adopt these sorts of “untracked” or “flex” policies.

In the author’s view, the issue likely comes down to whether an unlimited policy is treated like a valid cap on vacation accrual or a prohibited use it or lose it policy.  For example, like a use it or lose it policy, an unlimited policy causes employees to lose their unused vacation days.  Also, employees who are subject to an unlimited policy do not receive additional compensation if they fail to take the vacation days that are available to them.  But, like a capped system, an employee who is subject to a fairly administered unlimited policy at least receives the opportunity to take paid vacation and notice of the consequences of failing to do so.  And an unlimited policy arguably does not cause an employee to forfeit vested wages for the same reason that a cap does not cause a forfeiture.  Namely, because no vacation time was accrued in the first place.

How courts parse these issues is anyone’s guess.  But, given the existence of similarities to a policy that California law unequivocally prohibits, there are a number of reasons why a court could conclude that a given unlimited vacation policy violates the California Labor Code.  Five such reasons follow.

#1 – Unlimited Policies Are Disguised “Use It Or Lose It” Policies

In a standard accrual policy, an employee who accrues two weeks of paid vacation annually but elects not to take any time off work will, effectively, receive an additional two weeks’ pay.  In other words, the payout for accrued vacation allows the employee to choose between receiving increased compensation and using additional vacation days.  Neither an unlimited policy nor a use it or lose it policy provides employees with such an option.  Instead, the salient feature of both policies is that employees who elect to work rather than take vacation are punished.  Accordingly, a court could conclude that an unlimited policy should be deemed a use it or lose it policy because neither one compensates an employee for vacation time she elected not to use.

Proponents of unlimited policies distinguish unlimited policies on the basis that employees do not accrue any vacation days and therefore have no vested vacation time to forfeit.  But there is no law confirming the viability of such a distinction.  After all, if a policy is truly unlimited then an employee receives one theoretically usable vacation day for every single day of employment.  And each of these days is lost to the extent the employee elects not to take vacation on that day.  The same is true in a standard use it or lose it policy.  The only difference is that the employee has a longer period of time in which to take the vacation days that are otherwise lost (e.g. one year).  If a court adopted that interpretation, then an unlimited policy would be unenforceable for the same reasons as a use it or lose it policy.

#2 – All Unlimited Policies Set An Unreasonably Low Cap On Vacation Accruals

The California Department of Labor Standards Enforcement (“DLSE”) has issued three opinion letters concerning caps on vacation accruals.  Each letter conditions an employer’s ability to place a cap on the number of vacation days employees accrue on the employer having set the cap high enough to first ensure that employees have a reasonable opportunity to take the vacation days they are allotted before the cap comes into effect and further accruals cease.  Dept. Industrial Relations, DLSE Opn. Letters Nos.  1998.07.25 (July 25, 1998 at p. 1), 1991.01.07 (January 7, 1991 at p. 2), 1993.08.18 (August 18, 1993 at p. 3).

While not controlling, these DLSE opinion letters do “constitute a body of experience and informed judgment to which courts and litigants may properly resort for guidance.”  Brinker Restaurant Corp. v. Superior Court, 53 Cal.4th 1004, fn. 11 (2012) (internal quotation marks and citations omitted).  If a court were to embrace the views in the first point above and adopt the view that an unlimited policy is really just an accrual policy with a cap of zero, the DLSE’s opinion letters would buttress the conclusion that such a cap is far too low to be enforced.

The reasoning in the leading case concerning caps on vacation would also support that result.  In Henry v. Amrol, the Court of Appeal wrote that there “is an obvious difference between a policy which prevents additional vacation time from accruing after a certain amount of such time accrues and a policy which would divest an employee of already accrued vacation time.”  222 Cal. App. Supp. 3d 1, 5 (1990).

Implicit in this finding is that SOME amount of time must accrue before a cap is permissible.  But, in an unlimited policy there is no accrual whatsoever; or perhaps there is a Cinderella-type accrual of one day, every day, that is lost every evening at midnight.  Either way, the logic that leads to the conclusion that a cap on an accrual is valid does not support a similar conclusion concerning the validity of an unlimited policy.

#3 – An Unlimited Policy Is Inconsistent With Both “Equity And Fairness” And Protecting Employees

Because payouts for accrued vacation are eliminated, the implementation of an unlimited policy reduces the total compensation paid to employees who take relatively infrequent vacations.  This is a significant cost savings and employers are often drawn to unlimited policies in order to reduce the liability on their books for accrued vacation.  Further, adopting an unlimited policy generally does not increase the compensation that employees who take frequent vacations would receive relative to a standard accrual system.  Employees who take a greater number of vacation days than their accrual permits rarely have their wages docked as a result.  Rather, the extra vacation time is simply deemed an “advance” on future accruals that is not recovered from a final paycheck.

In sum, an unlimited policy will rarely increase any employee’s compensation and will frequently reduce the compensation that others receive.  This result is inconsistent with both Labor Code § 227.3, which requires that “principles of equity and fairness” be used to resolve any dispute regarding an alleged forfeiture of vested vacation time, and the often-applied canon of interpretation that all “statutes governing conditions of employment are to be construed broadly in favor of protecting employees.”  Murphy v. Kenneth Cole Productions, Inc., 56 Cal.Rptr.3d 880, 886 (2007).

#4 – When An Unlimited Policy Is Administered Unfairly, It Is A “Subterfuge” To Avoid Complying With Labor Code § 227.3

A court could refuse to enforce a formally unlimited vacation policy if evidence shows that, in practice, the company has a de facto system of tracking vacation usage or otherwise limiting employees’ ability to take vacation days.  Indicia of a de facto accrual/tracking policy could include:

  • guidance concerning the amount of “recommended” vacation usage;
  • records of supervisors chastising employees for using too much vacation time and/or not following guidelines concerning usage;
  • a common practice of denying requests to take vacation due to “business needs” or similarly vague justifications; and
  • practices by individual managers of limiting their reports from taking vacation beyond a certain level that depart from practices at the company as a whole.

To the extent some of these items are present, a court could conclude that the formal unlimited policy masks what is, in practice, an accrual policy.  In that case, a court could conclude that all employees lost vested wages to the extent they did not take vacation up to the level actually permitted under the de facto policy.

#5 – A Transition To An Unlimited Policy, By Definition, “Decelerates” Employees’ Accrual Rates

To the extent an employer transitions from a standard accrual policy to an unlimited policy, the affected employees’ vacation accrual rates decrease from some number of vacation days per year to zero.  Under the former plan they previously accrued some vacation with their continued services but under the new plan they accrue none.

The DLSE has previously opined that deceleration in accrual rates is prohibited, writing “our view is that the rate of accrual may not decelerate during the period of employment as this usually is a ruse to avoid the Suastez principles.” Dept. Industrial Relations, DLSE Opn. Letters No. 1986.12.30 (December 30, 1986 at p. 1).  Consistent with this guidance, a court considering whether to respect a newly adopted unlimited policy could conclude that the deceleration in accrual rates it caused was merely a ruse to avoid complying with the law.

What’s The Remedy?

An employee challenging an unlimited vacation policy would make at least the following contentions.  First, the vacation policy violated Labor Code § 227.3 because it caused an employee to forfeit vested wages.  Second, the employer failed to pay employees for all accrued but unused vacation time upon termination of employment in violation of Labor Code § 201 and did so willfully in violation of § 203.  Third, interest on the unpaid wages is due at the statutory rate of 10% under Labor Code § 218.6.  Fourth, the employer is liable for the employee’s attorneys’ fees and costs under Labor Code § 218.5.  Fifth, non-exempt employees who were subject to the unlimited policy received pay statements that failed to show gross wages earned or hours worked and therefore did not comply with Labor Code § 226.  Finally, employees would seek additional penalties under Labor Code § 2669.5, the Private Attorney General Act (“PAGA”), for the underlying violations of §§ 201, 203, 226 and 227.3.  The penalty under PAGA could be $200 for each pay period the unlimited policy was in effect (subject to a one-year statute of limitations).

If an employee succeeded on all of the foregoing allegations, the employer would be liable for some amount of vacation time, plus thirty additional days’ pay and tens of thousands of dollars in pay for each terminated employee.

How Would An Employee Plead And Prove A Violation?

How an employee would prove a claim related to an unlimited vacation policy depends on the circumstances under which the policy arose and how the policy was administered.  The easiest claim to prove would surface in the event an employer transitioned to an unlimited policy but administered the new policy in a manner that denied employees the ability to take a greater number of vacation days than were provided by the prior accrual policy (i.e. Reason #4 above).  Certainly, this sort of policy would be a subterfuge to avoid paying employees for their accrued but unused vacation.  As their remedy employees would seek wages equal to the number of vacation days they would have accrued under the prior policy less the number of days they took off while the subterfuge unlimited policy was in effect.

A related, though slightly different claim, could be made against an employer that had an unlimited vacation policy since its inception.  Namely, that the employer had a de facto cap on vacation time (i.e. no one ever took more than 25 days off per year).  Again, the employees would seek unpaid wages in an amount equal to the de facto cap less the number of vacation days they took off.

An employer that transitioned to an unlimited policy but administered it fairly could still be liable for unpaid wages if the court found that by transitioning to an unlimited policy the employer decelerated accrual rates in violation of current DLSE guidance (i.e. Reason #5 above).  The remedy here would be the same—wages equal to the number of vacation days they would have accrued under the prior policy less the number of days they took off while the unlimited policy was in effect.

But, what about an employer that has had an unlimited vacation policy since its inception and has always administered it consistent with its text and without any subterfuge?  In that case, an employee must first convince a court that to enforce even a fairly applied unlimited policy would violate California law for some or all of the above Reasons #1-3.

Even if that effort were successful, however, the employees would still run into some difficulty in proving that the employer failed to pay their wages.  In particular, how would employees arrive at the baseline number of “accrued” days to which they were entitled?  Perhaps this can be addressed by retroactively creating an accrual baseline through representative testimony by co-workers and managers about their experiences with actual vacation usage.  But the deck would appear to be a bit stacked against an employee who makes that argument.  Moreover, can it seriously be contended that a failure to pay wages was “willful” in this context given that there is no law on the point?  This is important because the value of any claim would fall dramatically without the Labor Code § 203 penalties.  Only time will tell how courts come down on these sorts of questions.

Conclusion

There are many reasons to believe some unlimited vacation policies will not be enforced as written and that courts ought to find that those policies cause employees to forfeit their wages.  This article attempted to address some of the key issues that the judges asked to rule on these issues will face but there exist many nuances that are not presented here.  If you would like to discuss your employer’s particular policy or this post more generally, then please contact Sebastian Miller.

Disclaimer: All materials have been prepared for general information purposes only to permit you to learn more about Sebastian Miller Law, P.C, its services and experience.  The information presented is not legal advice, is not to be acted on as such, may not be current and is subject to change without notice.

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