Final Wages: Paying Accrued Leave at Termination
Earlier this month, we discussed the range of issues that an employee departure can raise for employers. One of the most frequently searched topics on this blog relates to accrued vacation, PTO, sick leave, and other leave banks, and, in particular, what to do with those leave banks at termination. As I mentioned then, the federal fair labor standards act (FLSA) is silent on what to do with accrued leave, but the applicable state may not be.
State laws generally fall into one of three buckets:
- Employers must pay employees for accrued, unused leave along with final pay;
- Employers may exclude accrued, unused leave from final pay only if they have a written policy that explicitly states that this is the employer’s practice; or
- Employers may exclude accrued, unused leave from final pay absent a policy that says otherwise.
The word “leave” above does a lot of work. Companies increasingly assign different titles to “vacation” or “sick” leave and have introduced concepts from PTO to flex time to floating holidays. These hybrid leave banks offer greater flexibility to employers and employees, but they can complicate the question we are examining here: what to do with those leave banks when an employee leaves the business. Not every state makes life hard for employers. In 2007, the Minnesota Supreme Court held in Lee v. Fresenius Medical Care, Inc., that, under Minnesota law, whether benefits like accrued vacation or PTO are due is “wholly contractual.” My home state of Indiana is the same: whether an employer pays out PTO is a matter of employer policy or CBA terms.
However, the rules get a little more complicated in other states, like Illinois or California. Both states have wage payment laws requiring employers to pay “earned vacation and earned holidays” or “vested vacation time?” Let’s dispense with the obvious question first: No, you cannot simply call “vacation” PTO or “personal time” and avoid the effect of these laws. Even creating separate leave banks for “vacation” and something else might not avoid these state law pitfalls. In states like these, your analysis should start with how your employees can use the leave in question. That, and not the label you give that leave, will often control whether you must pay it out.
Let’s look at Illinois. Under the state’s Wage Payment and Collection Act (WPCA) regulations, employers may maintain a “use it or lose it” policy for vacation or similar leaves as long as they clearly communicate their policy to employees and give them a “reasonable opportunity to take the vacation.” 56 Ill. Admin. Code 300.520(e). However, the WPCA sets forth different rules for termination. Under the Illinois WPCA, whenever an employee resigns or is terminated without having taken all earned vacation time, an employer must pay the monetary equivalent of all of that earned, but unused, time to him or her “as part of his or her final compensation at his or her final rate of pay.” If you are having trouble reconciling these two regulations, think of it this way: if you terminate an employee’s employment while they still have leave, you have not given them a “reasonable opportunity” to use it.
The name you give your leave bank does not matter here. If you call your leave “personal days” instead of “vacation,” the regulations likely still apply. The Illinois Department of Employment Security has issued a regulation explaining the classification of “paid time off” where employers maintain a single bank of hours that can be used for any purpose, rather than separate vacation and sick leave banks. In this situation, the Department states that “[b]ecause employees have an absolute right to take this time off (unlike traditional sick leave in which using sick leave is contingent upon illness), the Department will treat ‘paid time off’ as earned vacation days.” 56 Ill. Admin. Code 300.520(f)(3). In other words, Illinois regulations would treat a “personal hours” leave bank as “earned” (and therefore compensable at termination) for purposes of the Act, meaning you must pay the leave at termination or create a potential wage claim. What appears to matter in Illinois is whether you give employees the “absolute right” to take the leave, as opposed to restricting it (e.g., “you have to be sick to take sick leave”). If employees have that absolute right, Illinois will likely consider the leave “earned” for purposes of the Act, no matter the label.
Even if your state does not share similarly strict statutes and regulations with Illinois and California, most states that place restrictions on “use it or lose it” policies require employers to give employees a reasonable opportunity to take the leave in order to comply with those statutes. Depending on your situation, if you do not provide such an opportunity to employees, you might have liability under even more pedestrian wage payment laws.