The tidal wave of wage and hour lawsuits that continue to wash over California employers is likely to continue for the foreseeable future. Regardless of the differing motivations that lead a current or (more likely) former employee to obtain legal advice, any plaintiff’s lawyer worth his salt will ask a series of questions to determine whether the defendant employer may have wage and hour skeletons hidden in its closet. And when it comes to a commissioned employee, an employer can quickly find out that its employment house is haunted.

If your compensation system includes any type of commissions, it is therefore wise to ask the same questions, albeit for the purpose of exorcising your skeletons before they turn into a costly nightmare. Are payments based on a percentage of the product or service? Consider a compensation plan that pays an employee minimum wage of $8.00/hour, plus a $5.00 “commission” for every product or service the employee “sells” to a customer. If the price of the product or service varies, but the $5.00 payment remains fixed, then the payment is likely not a “commission” under California law.

The distinction is not merely semantic. If the employee is classified as an exempt retail salesperson, then the employee may be owed substantial overtime because he or she may have been misclassified (only “commissioned” employees qualify for this exemption). Even if the employee is non-exempt, you may have been incorrectly calculating the “regular rate” of pay, and thus the overtime rate of 1.5 times the regular rate, as the calculations can differ depending on whether payment is a commission, piece rate, or bonus compensation.

• How does the employer account for expenses, losses, and returns?

Assuming an employee’s “commission” is based on the price of goods or services sold, liability frequently arises for impermissible deductions or offsets. A commission plan, for example, might pay a 10% commission based on “Net Sales.” But if the difference between Gross Sales and Net Sales includes a deduction for ordinary negligence by employees in general, returns unrelated to the employee’s individual sales, or other expenses of the employer that are not directly attributable to the particular employee, those deductions may be unlawful. In this respect, it is important to define “sales” carefully. A commission against “Sales,” for example, may not be understood by an employee (or jury) to mean a commission against the gross sales less 10%. If that is how the employer calculates it, it should make that calculation very clear on the front end.

• How/when do commission payments stop after the employee is terminated?

If the commission payments are cut off immediately upon termination, courts often consider this an unlawful forfeiture of wages already earned by the employee. In this respect, compensation plans should also be absolutely clear as to when a given commission is “earned.” Does the employee earn the commission upon invoicing, shipment, acceptance by the customer, or receipt of payment? While there is typically a custom and practice established, when the commission is earned should be made explicit, and should not differ from what actually occurs in practice.

Further, if the employee only earns the commission upon receipt of payment, be prepared to explain why the employee must still be involved in the transaction after “making the sale.” This is especially important in those circumstances where the employer is seeking to stop commissions to a terminated employee after the sale was made, but prior to receipt of payment.

• How frequently are the commissions paid?

The payment of commissions are one of the few exceptions to the general rule that non-exempt employees must be paid approximately twice each month. But this does not mean that an employer may delay the payment of commission until “year end” or some other point in time, if the commissions have already been earned and can be calculated. Where commissions cannot be calculated until the occurrence of a reasonable condition, the commission may be fairly characterized as unearned and thus not paid. But once the condition is met and the commission calculated, the Labor Code would then require that the payment of the commission be made in accordance with the “general rule” regarding the payment of labor; typically the next payroll period.

Commissions are often critical to the success of employers because they serve the dual purpose of incentivizing employees and allowing for the costs of labor to be recovered from the fruit of that labor. But there are many hidden traps for those who fail to carefully follow the rules with respect to the implementation of a commission based system. If you might be subject to such a trap, consider whether it’s better to come out of the closet now – or be “outed” involuntarily later.