California Supreme Court Clarifies Calculation of Overtime on Flat Sum Bonuses

On March 5, 2018, in a unanimous decision, the California Supreme Court in Alvarado v. Dart Container Corporation of California clarified how employers must calculate the regular rate of pay for purposes of compensating an employee for overtime when the employee earns a flat sum bonus in a single pay period.  

The regular rate of pay is used to calculate overtime compensation and includes the employee’s base rate of pay, and other remuneration such as piecework earnings, commissions and bonuses. When a flat sum bonus is paid, an employer must recalculate the regular rate of pay for the time period over which the bonus was earned taking into account the hourly value of the flat sum bonus. In California, the formula for dividing the flat sum bonus into an hourly amount has been unclear, with three potential divisors:

1. the number of hours the employee actually worked in a pay period, including overtime hours (the federal formula and the one used by the employer in Alvarado),
2. the number of non-overtime hours the employee worked during the pay period, or
3. the number of non-overtime hours that exist in a pay period, regardless of the number of hours the employee actually worked.

In Alvarado, the court held that employers, when calculating the hourly value of the flat sum bonus during a single pay period, must divide the flat sum bonus amount earned in the pay period by only the non-overtime hours worked by the employee. This decision breaks away from the federal formula and identifies a single proper method for employers to use in recalculating the regular rate. The court, however, expressly limited its decision to flat sum bonuses (i.e., fixed attendance bonus), so this rule does not necessarily apply to the calculation of other types of nonhourly compensation such as commissions, production bonuses, or piecework bonuses that may vary with number of hours worked.

The court also rejected a request by defendant Dart Container for a prospective-only application of the court’s interpretation. Four justices filed a concurring opinion criticizing the California Division of Labor Standards Enforcement for not issuing a clarifying regulation for over two decades, leaving employers with doubt about how to meet their statutory responsibilities, and allowing employees to receive less overtime pay than they were due.

What Employers Should Know Now

Employers must now calculate overtime for employees who earn a flat sum bonus during a single pay period by dividing the total compensation earned by the non-overtime hours worked in that pay period.  Employers who pay flat sum bonuses should review their pay practices to ensure compliance with this formula.