Collecting debts from employees--it's not as easy as you think.

If you are like many employers, giving employees a loan or advance on their next paycheck is something you will do to help the employee in need. Usually employers deduct the money from future paychecks or, in the event the employee leaves, they may try to recoup all of the funds owed from the final paycheck. Without following the law, collecting employee debts in this regard can result in employers being on the wrong side of litigation. Penalties and attorney's fees drive these types of claims. Knowing how and when to collect employee debts is crucial in avoiding these situations.

California law strictly limits the manner in which an employer may deduct debts or damages owed by employee(s) from his or her wages. Debts or damages often arise because of a loan, advance on income, an overpayment of wages, the loss or damage of equipment, tools, etc.

Loan/Debt:

Generally, employees may pay off indebtedness to employers by a written agreement authorizing the deduction of certain sums from their wages. If an employer is operating under such an agreement, the employer may not deduct from the employee's final paycheck the unpaid balance of a large debt owed to the employer. The law in this area mandates an employer cannot deduct the balance of money owed from the employee's final paycheck (a "balloon payment") without a separate written agreement signed by the employee at the time of his or her receipt of their final paycheck. Absent this second agreement, employers will need to operate under their original agreement provided they put it in writing. If a former employee stops paying on the loan, employers are usually forced to go to Small Claims Court to try to recoup their debt. In evaluating whether or not an employer wants to proceed in this fashion, they need to look at the economics of the situation to determine whether or not it is worthwhile to pursue an ex-employee for monies owed. Employers would be well-advised to make sure they did not violate any laws in the manner they collected the funds against the employee. This can quickly result in a countersuit by the employee for violation of the Labor Code seeking attorney's fees.

Damage to Property:

In California, employers' are not allowed to deduct from the employee's wages those amounts of funds they deem appropriate to compensate the employer for loss or damage caused by an employee's negligence. These types of losses must be borne by employers as a cost of doing business. The exception to this rule relates to damages the employer incurred as a result of an employee's gross negligence, willful misconduct, or dishonesty.

Sometimes employers have employees who intentionally damage employer property or steal from the employer. When this occurs, employers may deduct from an employee's wages those amounts necessary to compensate for the damage or losses resulting from this employee's misconduct. These deductions can be made from an employee's wages both during employment and from the final paycheck. No written agreement is necessary to allow an employer to make such a deduction. Employers need to be cautious, however, in deducting amounts relating to these claims. Should an employee take the employer to the Labor Board, the Labor Board will place the burden on the employer to demonstrate it suffered damages or losses as a result of the gross negligence, willful misconduct or dishonesty of the employee. If the employer is unable to clearly demonstrate these facts, the employer could be liable for unpaid wages, with penalties.

Overpayment to Employees:

Employees may not timely turn in their timecard for a recent pay period worked. Despite their failure to timely turn in a time card, employers are required by law to timely pay their wages. In this situation, employers should pay the employee's estimated wages and inform them there may be overpayment since a determination could not be accurately made whether the employee worked full time during their normal work week. Employers should then aggressively determine the exact hours the employee worked. If the employee was overpaid, employers should either have the employee repay the "overpayment" or sign an agreement allowing the employer to deduct those sums from the next paycheck. (As noted above, employers cannot make this deduction without a written agreement signed by the employee.)

Compliance:

In an effort to fully comply with the laws relating to debts and losses owed by employees, employers need to evaluate their own internal policies to make sure they are in compliance with the law. If employers are going to provide loans or "advances" to employees, they need to create an agreement outlining payment plans and the right of the employer to deduct such sums from the employee's paycheck. This agreement must be signed by the employee. Agreements to reimburse employers for simple negligence or loss are generally not going to be upheld. When employees decide to leave while owing money, the employer will need a separate written agreement signed by the employee giving the employer, the right to deduct any and all outstanding funds from the final paycheck. If compensation is still owed to the employer, all efforts should be made to amicably collect the funds. When things break down, employers need to cautiously evaluate the efficacy of pursuing their former employee in Small Claims Court. In making this decision, they need to look at the value of the debt and their own policies to make sure they have complied with the law. Failure to do so could result in the employer owing the employee more than the employee owes the employer.

Compliance with the law is simple provided you have some standard written agreements. Check with your counsel to make sure your agreements reflect the current status of the law.

Hugh A. McCabe is a shareholder at Neil Dymott and chair of the firm's employment law practice. Mr. McCabe concentrates his practice on the defense of employers, focusing in the areas of wrongful termination, discrimination, sexual harassment and the Family and Medical Leave Act. Neil Dymott is a multi-service law firm with offices in San Diego and the Inland Empire. Mr. McCabe may be reached at [phone] or [e-mail]. Neil Dymott, APC paid for this space and is solely responsible for its content.