Employers Must Use The Overtime “Regular Rate Of Pay” When Calculating Meal And Rest Break Premiums

By Tom Geidt

The California Supreme Court has dealt another blow to California employers by holding that employers are required to use the more complicated FLSA-type “regular rate” method of calculating premiums for missed or otherwise non-compliant meal and rest breaks and, further, that its decision is to be applied retroactively. In Ferra v. Loews Hollywood Hotel, LLC, decided on July 15, 2021, the Court resolved a major ambiguity in the Labor Code squarely in employees’ favor. As a result, employers will need to brace themselves for more wage and hour lawsuits and a new payroll burden in computing meal and rest break premiums going forward.

Background and Holding of the Case
The plaintiff in the case worked for two years as a bartender at Loews Hollywood Hotel. She sued the hotel, alleging that it failed to properly calculate the meal and rest break premiums Loews had paid to her, by paying them at her base hourly rate rather than the “regular rate of pay” used ordinarily in overtime situations. Plaintiff alleged that the premiums should have incorporated various other forms of non-hourly pay, including her quarterly incentive bonuses.

Since the year 2000, California Labor Code Section 226.7 has stated that employers must pay a premium (sometimes referred to as a “penalty”) for workdays in which compliant meal periods and/or rest breaks are not provided to non-exempt employees. Under the statute and a corresponding provision in the IWC Wage Orders, the required premium is one hour’s pay at the employee’s “regular rate of compensation.” This term is undefined in the statute and the Wage Orders. California’s overtime statute, Labor Code Section 510, uses a slightly different term, the “regular rate of pay,” as the proper method for calculating overtime payments. For overtime purposes, employers must include various forms of nondiscretionary pay in the equation – shift differentials, nondiscretionary bonuses, weekend premiums, commissions, piece-rate pay, etc. – under well-established “regular rate of pay” regulations originally issued by the U.S. Department of Labor and used by employers for decades.

Until now, however, the meaning of “regular rate of compensation” in Section 226.7 has never been clear. Both the trial court and the court of appeal in Ferra ruled that the employer’s use of hourly pay to calculate the premiums was lawful. Several other federal district courts had adopted the same interpretation in past cases. Many employers have relied on these rulings in paying meal and rest break premiums over the years.

The Supreme Court, however, rejected Loews’s argument that the Legislature must have intended “regular rate of compensation” to mean something different than “regular rate of pay.” In a unanimous decision authored by Justice Liu, the Court found the two phrases to be synonymous. In adopting this interpretation, the Supreme Court, as it has done time and again, relied heavily on the principle that workplace statutes are to be liberally construed in favor of employees, consistent with California’s strong public policy of promoting worker protections.

Loews argued, nonetheless, that the Court’s ruling should be applied only prospectively, not retroactively. It cited considerations of fairness, due process, and employers’ reasonable reliance on contrary lower court rulings. Loews also argued that retroactive application will expose employers to “millions” in liability. The Supreme Court was unpersuaded by these arguments. According to Justice Liu, it is not clear why the Court should favor the interest of employers in avoiding “millions” over the interest of employees in obtaining the “millions” owed to them under the law.

Analysis and Recommendations
California employers already have been deluged with meal and rest break class actions and PAGA representative actions, many of them founded on technical timing requirements. The Ferra decision is sure to spawn many more lawsuits and to expand the lawsuits already pending. The Court’s decision on retroactivity is particularly unfortunate given the lack of prior guidance from the courts, enforcement agencies, and Legislature on how employers were supposed to be complying with this undefined “regular rate of compensation” requirement all along.

As a result of Ferra, all employers in California should carefully review their method of calculating meal and rest break premiums during workweeks in which their employees have received, or are earning, any form of non-discretionary remuneration beyond base hourly pay. Employers whose pay systems are not in conformity with Ferra should modify their systems as soon as possible to cut off future liability. Employers will need clear guidance on which types of payments belong in the regular rate and which do not. If they have not used the correct regular rate formula in the past, they also will need to decide on a strategy for dealing with potential backpay payments before lawsuits are filed and how to calculate those payments.

Finally, it seems clear from the Court’s decision that employers will now be expected to incorporate supplemental pay into the meal/rest premium “regular rate” not only when the supplemental pay is earned and paid contemporaneously – that is, in the same pay period as the premium – but also as to nondiscretionary bonuses and other payments that are earned over an extended time period, such as a quarter or even a year. This will likely require making retroactive “true-up” payments, often many months after each meal or rest break premium was paid in the first place, as is done with overtime true-ups. Although the formula for paying retroactive overtime true-ups on bonuses is generally straightforward, the proper method of retroactively apportioning bonuses on earlier-paid meal and rest break premiums is by no means clear, as premiums are not tied to any particular number of hours worked. This will be among Ferra’s challenges for payroll departments.

California wage and hour law continues to grow more complex and bureaucratic. Ferra leaves many questions unanswered, and it raises new ones. Employers should consult qualified experts to address these compliance issues.

If you have any questions about this case or how best to comply with its holdings, please contact any GBG attorney.

Tom Geidt