Commission-Based Financial Advisors Entitled to Overtime Pay

California employers may not realize that even if nonexempt employees are paid entirely through commissions, they may be entitled to overtime pay if they work beyond a certain number of hours.

A California appeals court recently ruled that financial advisors who were only paid commissions were entitled to overtime premiums under the state's wage and hour laws.

California employers generally must pay employees overtime premiums if they work more than eight hours a day or 40 hours a week. A person employed in an administrative capacity, however, is exempt from this and other wage and hour requirements if he or she performs certain duties and is paid a monthly fixed salary equivalent to at least twice the state minimum wage for full-time employment.

The employer in this case is a securities broker-dealer firm that provides financial planning and investment products through its financial advisors. It classifies its California financial advisors as exempt under the administrative exemption.

The employer pays advisors on a commission-only basis. It uses a computer program to track the trades they make in a given month and then calculates the compensation owed based on what commission tier the employee met that month. The higher the employee's total monthly gross product sales, the higher the percentage used to calculate the employee's monthly commission payment.

If the amount of commissions a financial advisor earns in a given month is not at least double the California minimum wage, the employer pays the financial advisor the commission due plus a "draw"—or advance on future commissions—in an amount equal to the difference between the commission and double the minimum wage. According to the employer, this ensures financial advisors always receive a minimum monthly payment of at least double the minimum wage.

But financial advisors are expected to repay the draw, and they carry it forward as a deficit—month to month and even year to year—until it is repaid. To recoup these draw payments, the employer reduces the employee's future monthly commission payments, to the extent they exceed double the minimum wage, until the draw is repaid in full.

Two employees filed a class action against the employer on behalf of all financial advisors in California who were paid once a month and who earned commissions in the preceding four-year period. They alleged several wage and hour claims based on the employer's classification of its financial advisors as exempt.

The trial court ruled that the administrative exemption applied and dismissed the employees' claims. The employees appealed.  

What Is a Salary?

The court first noted that California wage and hour laws do not define what constitutes a salary or what it means to pay an employee on a salary basis for purposes of the administrative exemption.

To a substantial degree, the court said, California courts follow the federal salary basis test and look to the federal regulations implementing the Fair Labor Standards Act (FLSA) for guidance.

The regulations state that an employee is paid on a salary basis if the employee "regularly receives each pay period on a weekly, or less frequent basis, 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."

The regulations also state: "An employee is not paid on a salary basis if deductions from the employee's predetermined compensation are made for absences occasioned by the employer or by the operating requirements of the business."

Effective Jan. 1, 2020, this regulation was amended to add that up to 10 percent of the salary amount required may be satisfied by the payment of nondiscretionary bonuses, incentives and commissions, that are paid annually or more frequently.

The court then noted that no California court had addressed whether a compensation plan based solely on commissions, with a recoverable draw against future commissions, qualified as a salary for purposes of the administrative exemption. It then concluded that the employer's compensation plan did not meet the test.

Under the federal regulations, only up to 10 percent of the required salary amount could be satisfied by the payment of commissions. Since 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 said.

Second, the federal 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 is not subject to reduction because of variations in the quality or quantity of the work performed. The employer's compensation model does not fit within that definition because the financial advisors' commissions fluctuated each month based on their performance and the quantity of their sales, the court said.

The court rejected the employer's claim that its recoverable advances on future commissions showed that the financial advisors' compensation was fixed and predetermined. Under California law, although earned commissions are wages, advances on not-yet-earned commissions are not.

An advance, by definition, the court said, is not a wage because all conditions for performance have not been satisfied. The employer cannot, therefore, rely on its advances 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," the court said.

The court reversed the trial court decision, dismissing the lawsuit and sent it back to the lower court for further proceedings.

Semprini v. Wedbush Securities Inc., Calif. Ct. App., No. G057740 (Nov. 9, 2020).

Professional Pointer: Employers should note that federal and California laws require businesses to pay employees overtime premiums unless workers meet all of the requirements under a particular exemption. Many of California's exemptions are harder to meet than federal exemptions, so employers should review both federal and state laws carefully before classifying employees as exempt from overtime pay.

Joanne Deschenaux, J.D., is a freelance writer in Annapolis, Md.