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California Court Permits Class Action against Employer that Considers Workers' Compensation Expenses and Cash and Inventory Shortages in Calculating Bonuses

January 2, 2005

Like many employers, Ralphs Grocery Company considers the profitability of the business as a factor in calculating employee bonuses. In a recent decision, a California appellate court allowed a former employee to proceed with a potential class action lawsuit claiming that such a bonus plan was illegal in California because, in determining the bonuses, the plan took into account the employer's workers' compensation expenses and cash and inventory shortages. Ralphs Grocery Company v. Superior Court, 2nd Appellate District, Case No. B168257, issued October 23, 2003.

This decision was based on California statutes and regulations that prohibit certain deductions from employee wages. Specifically, California law prohibits wage deductions to offset workers' compensation-related expenses. In addition, deductions cannot be taken from non-exempt employees' wages to cover cash shortages, breakage, or loss of equipment absent a showing of dishonesty, willfulness, or gross negligence. The courts have held that the employer must bear these losses as an inevitable part of doing business.

The plaintiff, David Swanson, a former store manager, sued Ralphs for violating these provisions. Without attaching a copy of the bonus plan to his complaint, he alleged that the bonus calculations were based, in part, on these impermissible factors. Ralphs moved to dismiss the lawsuit, arguing that, because the bonus is paid in addition to regular wages, the employee did not suffer the reduction in earnings that the laws prohibiting wage deductions were intended to prevent. It further argued, as a matter of economics, that profit-based compensation plans benefit both employers and employees.

The court ruled that Swanson's allegations were sufficient to overcome the employer's motion to dismiss. The court rejected all of Ralphs' arguments, and concluded that bonus calculations that consider workers' compensation costs or, in the case of non-exempt employees, cash shortages, breakage, or equipment losses not attributable to the employee's dishonesty, willfulness, or gross negligence, are unlawful in California.

The message is clear for California employers with bonus plans that take profits into account. The plan should explicitly state that workers' compensation expenses, cash shortages, equipment losses, and breakage will not be considered in bonus calculations. A failure to make those changes potentially exposes employers to class action lawsuits for unlawful deductions from wages.

In December 2004, the California Supreme Court agreed to review this issue. Although the uncertainty persists, there is at least some cause for optimism that the Court will recognize the absurdity of subjecting employers to class-wide liability for trying to share profits with employees.