Vacation Policies For Savvy California Employers

A wave of vacation policy issues has crashed our firm’s practice recently.  A client’s employee handbook vacation policy had to be tweaked to comply with California law.  Another client needed advice on how to terminate an employee who insisted on taking vacation after their request had been denied.  An employee threatened suit against a small/medium business potential client that had created more vacation liability than it intended.

We thought the timing was ripe to review basic legal rules for California paid vacation or paid time off (PTO).

General Rules For Employers

For all of you employers generous enough to provide vacation/PTO, don’t let the legal rules make you regret your generosity:

1. California law does not require employers to provide paid vacations or PTO to employees.
2. If you provide paid vacation or PTO, you get to make the rules (well most of them).  Thus, your policy may state:
   • how long an employee must be employed before they begin earning vacation
   • the amount of vacation entitlement
   • the waiting period before an employee may use earned vacation
   • the minimum increments in which vacation must be taken
   • the maximum accrual cap on earned vacation
   • the procedure for vacation requests and authorization
   • that you reserve the right to schedule vacation in your sole discretion
   • that you reserve the right to deny any vacation request in your sole discretion
3. Vacation accrues pro rata with wages earned (whether you like it or not, or intend that or not).  Thus, unless specified otherwise vacation begins to accrue on day one of employment in proportion to wages earned.  A tiny bit of vacation is earned for each minute worked.
4. Once vacation is earned (or “vested” per California Labor Code section 227.3; see also California Supreme Court decision in Suastez v. Plastic Dress-Up Co., 31 Cal. 3d 774 (1982)) it becomes payable as wages and, like wages, cannot be forfeited.
5. If you fail to place a maximum accrual (or accrual “cap”) on earned vacation, your vacation liability is limited only by the number of years your employees work for you.  That’s right, the longer you employ them, the more your potential vacation liability will be.  Your vacation liability will be the amount of the earned vacation for all years of employment less the amount of vacation taken.  This can be substantial for long term employees who don’t take vacation.
6. All accrued and unused vacation must be paid upon termination of employment.  The vacation amount is calculated using the wage rate in effect at termination.
7. Under California law, “use it or lose it” vacation policies are unlawful.

No Use It Or Lose It Policies

A “use it or lose it” vacation/PTO policy is one where an employee forfeits vacation after it has been earned (or has “vested”).

This issue usually comes up only after an employee has been terminated and then claims they have not been paid all of their vacation as a result of a “use it or lose it”  vacation policy.

You as the employer need not use “forfeit” or equivalent words to create a “use it or lose it” policy.  Any of the following will do:

1. A vacation/PTO policy that states all vacation must be taken in the year it is earned.
2. A vacation/PTO policy that says vacation may not be carried over to the next year.
3. A vacation/PTO policy that specifies the amount of vacation days per year (say 10 days per year) and says nothing else.  Then an employee works for you for 3 years, never takes any vacation, and you pay them for 10 vacation days (one year’s worth) upon termination (but not the other 20 vacation days – the first 2 years’ worth).
4. A vacation/PTO policy that says, “After completion of one year of employment you will be entitled to 10 days of paid vacation.”  Then your employee quits 6 months into their employment and you pay no vacation with their final pay.
5. A vacation/PTO policy that places a cap on the maximum accrual on earned vacation but the cap is so “tight” it in effect turns your policy into a “use it or lose it” one because employees don’t have enough time to take the vacation entitlement.

The above list is not exclusive.  Other (ambiguous) language or combination of factors may make your vacation policy a “use it or lose it policy.”  The general concept is employees must be able to use the vacation entitlement within a “reasonable” time or be paid for all vacation earned but not taken.

Compliant California Vacation/PTO Policies

A California vacation/PTO policy at a minimum should:

1. Clearly specify when vacation/PTO begins to accrue (i.e. first date of employment or after the “introductory” or some other period of employment);
2. Clearly specify the amount of vacation/PTO that is earned for each continuous year of employment; and
3. Clearly specify a maximum accrual on earned but unused vacation/PTO.  We recommend a maximum accrual that is a factor of 1.5x to 2x the annual vacation entitlement.  Note that 1.5x is on the riskier end; 2x is less risky.  For example, if the vacation entitlement is 10 days per continuous year of employment then 1.5x is an accrual cap of 15 days and 2x is an accrual cap of 20 days.  This means your employees may accrue up to 15 days (1.5x) or 20 days (2x) without taking any vacation but accrue no more once the accrual cap is reached.  Once the cap is reached employees must then take vacation before further vacation is earned.  Note that a 1x accrual cap is in effect a “use it or lose it” policy because any vacation earned during a year that is not taken within that same year would be forfeited.

Using a vacation accrual cap is a California employer’s most effective way to avoid a “use it or lose it” policy while also limiting paid vacation exposure.  Upon employee termination the maximum vacation due would be the maximum accrual.  The amount of earned unused vacation due might be less than the maximum accrual, but it will never be greater than the maximum accrual.

The above is the bare minimum to avoid a “use it or lose it” policy.  We also recommend your vacation policy contain other provisions mentioned above, such as a restriction on when vacation may first be taken, retaining your right to schedule or deny the taking of vacation in your sole discretion, and the procedure for requesting and authorizing vacation/PTO requests.

Of course we recommend your vacation or PTO policy be in writing, for example in your employee handbook, in a written memo, or in an offer letter.  And the vacation policy language should be carefully reviewed for compliance with California law.

Something that ought to be straightforward can create liability or have unintended consequences if not done in a manner consistent with California law.  Time to dust off that employee handbook and take a look at your vacation/PTO policy (and perhaps some of your other employee policies)!