Commission-Only Compensation Plan Fails California’s Salary Basis Test

Under California law, employers must pay their employees overtime rates unless an exemption applies. One such exemption, the “administrative” exemption, excludes from state overtime requirements an employee primarily engaged in certain exempt duties who earns a monthly salary equivalent to no less than two times the state minimum wage for full-time employment (the “salary basis test”). 

Today, in Semprini v. Wedbush Securities, Inc., No. G057740, the California Court of Appeal held, as a matter of first impression, that a compensation plan based solely on commissions, with a recoverable draw against future commissions, does not qualify as a “salary” for purposes of the administrative exemption’s salary basis test.      

The Facts

Defendant Wedbush Securities, Inc. (“Wedbush”), a securities broker-dealer firm, classified its California financial advisors as exempt under the administrative exemption. Wedbush paid its financial advisors on a commission-only basis.  If, however, the amount of commissions a financial advisor earned in a given month did not equal at least double the California minimum wage, Wedbush would pay the financial advisor the earned commissions plus a “draw” (an advance on future commissions) equal to the difference between the commissions and double the state minimum wage.  

Financial advisors were expected to repay the draw, and would carry the draw forward until repaid. There was conflicting evidence about what happened if a financial advisor separated from employment before paying off the draw.  

The Lawsuit

Two employees of Wedbush (one current and one former) filed a putative class action against Wedbush, alleging several wage-and-hour claims based on Wedbush’s alleged misclassification of its financial advisors as exempt.  

The trial court found in favor of Wedbush after a bench trial on the issue of whether Wedbush’s compensation plan satisfied the administrative exemption’s salary basis test. The plaintiffs appealed. 

The Decision

The court of appeal reversed. The court relied heavily on the federal salary basis test for guidance. Under federal regulations implementing the Fair Labor Standards Act (“FLSA”), only up to 10 percent of the salary amount eligible for the administrative exemption may be satisfied by the payment of commissions, meaning that a compensation plan based 100 percent on commissions cannot satisfy the federal salary basis test. The court reasoned that because California follows the federal salary basis test “to a substantial degree . . . , a commissions-only compensation plan cannot pass California’s salary basis test.”

The court also noted that the FLSA regulations state that to meet the salary basis test, the employee must regularly receive “a predetermined amount constituting all or part of the employee’s compensation, which amount is not subject to reduction because of variations in the quality or quantity of the work performed.” Because Wedbush’s financial advisors’ commissions varied each month based on performance and quantity of sales, the financial advisors did not earn a “predetermined amount” and, thus, did not earn a “salary” under federal or state law.  

The court rejected Wedbush’s argument that the draw payments guaranteed financial advisors a fixed and predetermined amount of pay. Under California law, advances on not-yet-earned commissions are not wages. Wedbush, therefore, could not rely on the draw payments to satisfy the salary basis test: “The salary basis test requires employers to pay their employees at least double the minimum wage, not loan them that amount.”  

In closing, the court cautioned Wedbush that “to the extent [it] forces its employees to repay advances at termination, any such policy or practice would be particularly problematic, as an employee could conceivably work full-time, yet earn nothing at all. . . . Such an arrangement would not only fail the salary basis test; it would violate state minimum wage requirements.”

What Employers Should Know

Several, but not all, of the exemptions under California law have a salary basis test. Employers who classify commission-based employees as exempt should carefully review their compensation policies to ensure that the salary basis test, should one apply to the claimed exemption, is satisfied. The potential liability in a misclassification case can be substantial.  

Please contact Payne & Fears LLP if you have any questions or need help reviewing your compensation policies.