Wage and Hour Law: The Commissioned Employees Exemption

In Muldrow v. Surrex Solutions Corp., 2012 DAR 949 (January 24, 2012), the court upheld a trial court’s ruling that a class of individuals employed as recruiters (called “senior consulting services managers”) were subject to California’s commissioned employee exemption and therefore could not pursue claims for unpaid overtime against their employer. In so doing, the court also provided a helpful analysis of the commissioned employees exemption and its application.

The commissioned employees exemption, contained in Section 3(D) of Wage Orders 4 and 7, provides as follows:

Provisions of subsections (A), (B), and (C) above shall not apply to any employee whose earnings exceed one and one-half (11/2) times the minimum wage if more than half of that employee’s compensation represents commissions.

The referenced subsections (A), (B), and (C) of the applicable Wage Orders pertain to the requirement to pay overtime to employees and alternative workweek schedules. Employees subject to the commissioned employees exemption are not entitled to overtime. Unlike employees exempt from overtime under the professional, executive and/or administrative exemptions, however, employees subject to the commissioned employees exemption are entitled to meal and rest periods to the same extent as non-exempt employees.

The analysis of the commissioned employees exemption in Muldrow focused on several important cases that helped define the circumstances under which the exemption does (or does not) apply. In Keyes Motors, Inc., v. Division of Labor Standards and Enforcement, 197 Cal.App.3d 557 (1987), the court adopted the definition of commission wages contained in Section 204.1 of the Labor Code, which provided, in part, that

Commission wages are compensation paid to any person for services rendered in the sale of such employer’s property for services and based proportionately upon the amount or value thereof.

In Ramirez v. Yosemite Water Co., 20 Cal.4th 785 (1999), California’s Supreme Court agreed that Labor Code Section 204.1 provides the proper definition of commission wages for purposes of applying the commissioned employees exemption and it adopted the same two-part test that was used in Keyes for determining whether a compensation scheme shall be deemed to constitute commission wages, which is as follows:

First, the employees must be involved principally in selling a product or service, not making the product or rendering the service. Second, the amount of compensation must be a percent of the price of the product or service.

Addressing this test, the employees in Muldrow claimed they were not subject to the commissioned employees exemption (and therefore entitled to overtime) because (i) they were not primarily engaged in sales; (ii) their commissions were not based on price; and (iii) the employer’s compensation system was not a bona fide compensation system. The court addressed (and rejected) each arguments as follows:

Not principally engaged in sales.

The primary job of a recruiter was recruiting candidates for employer clients. This involved searching for and recruiting candidates, convincing the candidate and the employer/client that placement of the candidate with the employer is in both of their best interests, and then closing the deal. The company (Surrex) received revenue only upon successful placement of a candidate with an employer client. The employment agreements of the recruiters identified “sales” as a job duty and employees and executives of Surrex testified that recruiters were engaged in sales. Surrex also provided recruiters with sales training.

Based on these facts, the court concluded that the job of the recruiter, “reduced to its essence, was to offer a candidate employee’s services to a client in exchange for a payment of money from the client to Surrex.” This conduct, the court held, “meets the ordinary definition of the word sell”.

Key factors for the court in reaching this conclusion were that recruiters engaged in what is commonly considered sales activities, i.e., attempting to persuade or influence candidates and clients in a course of action. The court also considered it important that Surrex did not receive any revenue until a candidate was placed with an employer. The court also held that activities like researching, cold-calling, interviewing candidates, inputting data and submitting resumes were all sales related activities.

Commissions not based on price.

When Surrex placed candidates with clients as consultants, Surrex would receive an hourly fee for the services of the candidate from the client and recruiters received compensation based on a percentage of that hourly fee adjusted for gross profit. The recruiters contended that the commission must be paid based on a percentage of the price paid by the client and that the company’s payment of recruiters based on a percentage of adjusted gross profit therefore did not qualify as a commission payment under Keyes.

The court rejected the plaintiffs’ argument as an “excessively narrow and wooden” application of Keyes. The court noted that according to Black’s Law Dictionary, “the definition of commission expressly includes payment derived from profits.” The court also found it significant that recruiters negotiated the price paid by the client employer to Surrex and the hourly fee to be paid to the candidate (the difference, after adjustment for overhead, being the adjusted gross profit). The payment scheme therefore incentivized recruiters who negotiated better deals for Surrex. The court also rejected plaintiffs’ assertion that the compensation system was too complex, finding that such an assertion is “neither factually accurate nor legally relevant.”

Company’s compensation plan was not a bona fide commission system.

The plaintiffs’ final argument was that the commission system was not bona fide because recruiters did not earn in excess of their monthly draws. While the court did not disagree that such a requirement is contained in the DLSE Enforcement Manual, the court concluded, based on its review of the evidence, that recruiters indeed made more than the monthly draw and therefore rejected plaintiffs’ assertion that the commission plan was not bona fide on this basis.

Muldrow provides helpful guidance when dealing with the proper application of the commissioned employees exemption. Given the complexity and importance of making a correct determination on this issue, employers are advised to consult with experienced employment law counsel before concluding that the commissioned employees exemption does or does not apply.

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