Can a Worker Sue an Employer's Payroll Provider for Negligence?

The California Supreme Court will soon decide whether an employee may sue a third-party payroll provider for wage and hour discrepancies.

The employee in this case sued her former employer for a variety of employment-related claims and later added Automatic Data Processing (ADP) to the complaint, asserting claims for failure to pay wages and overtime premiums in a timely manner and provide accurate wage statements. The California Court of Appeal found that a payroll service provider can't be held liable under the state labor code for improper wage payments, but it allowed the employee in the case to sue ADP for professional negligence and negligent representation.

The appellate court "inexplicably invented new law that would allow employees to bring wage claims against payroll service providers through the backdoor," ADP argued in its petition to the California Supreme Court.

[SHRM members-only resource: California Labor and Employment Law Overview]

If the California Supreme Court were to rule in favor of the employee, ADP could be held liable for damages to the employee for allegedly breaching its contract with the employer and performing payroll services inaccurately or negligently, explained Grant Alexander, an attorney with Alston & Bird in Los Angeles.

"A decision for the plaintiff in this case would be very significant," said Bill Nolan, an attorney with Barnes & Thornburg in Columbus, Ohio. It adds a new potential defendant to any case in which the employer uses an outside payroll company. 

It would open the door to scrutinizing not only what the employees were paid but also how well the payroll company did its job, he added. "In the case of a smaller employer using one of the large payroll companies, a pro-employee decision would add a deeper pocket to litigation."

Oral Argument

The California Supreme Court heard oral arguments in the case on Dec. 5. Calling the employee's allegations "unique and exaggerated," Robert Lewis, an attorney with Morgan Lewis in San Francisco, said the court of appeal "brushed aside" the state legislature and created new rights for employees.

The employer's obligation to ensure that wages are properly paid is "nondelegable," he argued on behalf of ADP. He asked the court to reverse the appellate court's finding that the employee could bring negligence claims against ADP as a third-party beneficiary of the employer's contract with the payroll provider.

Such claims have never been recognized by courts in the 60 years that payroll service providers have operated in California, Lewis said.

"Do providers have any independent obligation to ensure that their products and services are in compliance with the law?" asked Justice Goodwin Liu.

Lewis responded that the payroll company's obligation is to the employer, not the employee.

But Glen Broemer, an attorney in Jersey City, N.J., disagreed. Arguing for the employee, he said that it's common for contracts to have multiple purposes, and a contract for payroll services has benefits for the employees who are paid through the service provider.

ADP provides a highly skilled and extremely difficult service that is not purely administrative, he said. Payroll is complicated, and service providers should be held liable for professional negligence, he said. 

The justices posed more questions to Lewis than Broemer. Liu, in particular, seemed concerned about whether a payroll company has a duty to report to the employer any information it receives from employees about payroll errors. "Do pay statements come with something that says, 'If you feel this is inaccurate, please call [the service provider]?' " he asked. "What if an employee called the [payroll company] and said, 'My overtime isn't right on my pay stub. Can you please correct this?' Does the [provider] have any obligation to inform the client?"

The California Supreme Court has 90 days from the oral argument to issue an opinion in the case. "As with any case, how big an impact a pro-plaintiff decision has will depend on the specifics of the court's decision," Nolan said. "Would the court invite liability for the payroll company in all cases, or would it issue a narrow decision that limits liability to the specific facts of this case?"

Review Vendor Contracts

"I think the primary compliance consideration for companies who want to hire outside vendors is to do their due diligence," Alexander said. They should obtain written confirmation that the vendor is in compliance with all federal, state and local laws with respect to the services it is providing, he said. 

"More importantly, clients need to make sure that contained within their contract with the vendors is specific language [stating] that the vendor will indemnify the company for any injuries arising from acts for which they have primary responsibility," he added.

When contracting with an outside vendor, it is always important to analyze and address how the parties allocate liability in the event of a dispute, Nolan said. This case underscores the importance of this principle, he noted.