Gattuso v. Harte-Hanks Shoppers, Inc.

Facts

The statutory framework. Section 2802, subdivision (a) provides that “[a]n employer shall indemnify his or her employee for all necessary expenditures or losses incurred by the employee in direct consequence of the discharge of his or her duties, or of his or her obedience to the directions of the employer, even though unlawful, unless the employee, at the time of obeying the directions, believed them to be unlawful.” Subdivision (c) defines “necessary expenditures or losses” to include “all reasonable costs …” — the court preserves the statute’s own ellipsis, so the definition quoted is not complete on its face. (Gattuso v. Harte-Hanks Shoppers, Inc. (2007) 42 Cal.4th 554, 561.)

The companion provision does the enforcement work. Section 2804 provides: “Any contract or agreement, express or implied, made by any employee to waive the benefits of this article or any part thereof, is null and void, and this article shall not deprive any employee or his personal representative of any right or remedy to which he is entitled under the laws of this State.” (Gattuso, supra, 42 Cal.4th at p. 561.) Sections 2802 and 2804 were enacted in 1937 as part of the original Labor Code, section 2802 deriving from former Civil Code section 1969 enacted in 1872; section 2802 was amended to its present form in 2000. (Id. at pp. 561–562.) Legislative committee analyses of that amendment stated that “Section 2802 is designed to prevent employers from passing their operating expenses on to their employees.” (Id. at p. 562.)

The parties and the pay structure. Harte-Hanks Shoppers, Inc. prepares and distributes advertising publications in California, including the PennySaver and the California Shopper, through three geographic business units. It employs both outside and inside sales representatives: outside representatives “meet customers in person at their places of business in assigned geographical territories” and “must drive their own automobiles to contact customers,” while inside representatives work from company offices using company telephones. Both are paid by commission or by a combination of base salary and commission, and with few exceptions Harte-Hanks “does not separately reimburse outside sales representatives for their automobile expenses.” (Gattuso, supra, 42 Cal.4th at p. 559.)

Frank Gattuso and Ernest Sígala were outside sales representatives in the Southern California unit. They sued on behalf of themselves and other outside representatives, seeking indemnification under section 2802 for the cost of using their own vehicles. Harte-Hanks answered that it already satisfied section 2802 “by paying them higher base salaries and higher commission rates than it pays to inside sales representatives.” (Gattuso, supra, 42 Cal.4th at p. 560.)

Procedural history

The trial court framed the controlling question itself, asking the parties to brief whether “Labor Code section 2802 permit[s] an employer to pay increased wages or commissions instead of indemnifying actual expenses necessarily incurred in the discharge of an employee’s duties?” It answered yes, and further concluded that the amount or rate of reimbursement “could be determined by agreement between employer and employee or, in the absence of an agreement, could be any reasonable amount.” (Gattuso, supra, 42 Cal.4th at p. 560.) That second conclusion — reimbursement by private agreement — did not survive review.

Plaintiffs then moved to certify a class of all current and former Harte-Hanks outside sales representatives not reimbursed for automobile expenses incurred after January 1, 1998. (Gattuso, supra, 42 Cal.4th at p. 560.) The trial court concluded that plaintiffs “had established an ascertainable class but also that they had failed to satisfy the ‘community of interest’ requirement” (id. at p. 575), reasoning that liability would turn on whether each representative had an individual agreement about expense compensation and whether the compensation paid to each was reasonable — both requiring “an individualized inquiry as to each outside sales representative” (id. at pp. 561, 576). The Court of Appeal affirmed, and the Supreme Court granted review. Because its own conclusion “differs somewhat from that reached by the trial court and the Court of Appeal,” and because those differences bear on class certification, the court reversed and remanded. (Id. at p. 559.)

One issue was expressly removed from the case. Harte-Hanks had argued below that section 2802 covers only losses caused by third parties and not “routine expenses of employment such as car expenses”; both lower courts rejected that argument and Harte-Hanks did not renew it, so the Supreme Court did “not address it here.” (Gattuso, supra, 42 Cal.4th at p. 560, fn. 3.)

Issue

“May an employer satisfy this statutory obligation by paying employees increased wages or commissions instead of separately reimbursing them for their actual expenses?” (Gattuso, supra, 42 Cal.4th at p. 559.) Two subsidiary questions followed: whether section 2802 permits a lump-sum reimbursement method at all, and if so whether the lump sum must be segregated from wages. A fourth question was whether the trial court abused its discretion in denying class certification. (Id. at pp. 570, 572, 575.)

Holding

Reasoning

1. Three reimbursement methods, in ascending order of employer convenience. The court worked through the available mechanisms. The actual expense method — tallying fuel, maintenance, repairs, insurance, registration and depreciation, then apportioning between business and personal use — “is the most accurate, but it is also the most burdensome for both the employer and the employee,” requiring detailed records and, because only “necessary” expenses are recoverable, judgments about the reasonableness of the employee’s choice of vehicle, fuel grade and repair shop. (Gattuso, supra, 42 Cal.4th at p. 568.) The mileage reimbursement method multiplies work miles by a per-mile rate, commonly the IRS rate; being “merely an approximation of actual expenses,” it “is inherently less accurate,” so the employee must be permitted to show a shortfall, and “the employer must make up the difference.” (Id. at p. 569.) The lump-sum method — a per diem, car allowance or gas stipend — requires no employee submissions at all. (Id. at p. 570.)

2. Section 2802 does not dictate a method. Plaintiffs argued that reimbursement must be “correlated” to expenses actually incurred. The court disagreed: “Nothing in the language of section 2802 restricts the methods that an employer may use to calculate reimbursement, and we are required to construe section 2802 in a manner that produces a workable and reasonable result.” (Gattuso, supra, 42 Cal.4th at p. 570.) It offered the practical case — an employee who drives an identical route daily, where “it would be unreasonable to require a meticulous record of actual miles driven.” (Id. at p. 571.) Plaintiffs, the court noted, cited “no authority apart from section 2802 itself.” (Id. at p. 571.)

3. The section 2804 backstop. Running through the analysis is a limit the trial court had missed. A mileage rate, like other terms and conditions of employment, “may be a subject of negotiation and agreement between employer and employee,” but “[u]nder section 2804, however, any agreement made by the employee is null and void insofar as it waives the employee’s rights to full expense reimbursement under section 2802.” (Gattuso, supra, 42 Cal.4th at pp. 569–570.) An agreed rate therefore “would not relieve the employer of the statutory obligation to provide complete reimbursement, nor would it preclude an employee from challenging the sufficiency of a reimbursement payment that was calculated using the agreed mileage rate.” (Id. at p. 570.) The court applied the same rule to an agreed lump sum: such an agreement “would not relieve the employer of the statutory obligation to pay full reimbursement, nor would it bar an employee challenge to a lump-sum payment as being insufficient under section 2802 to provide full reimbursement.” (Id. at p. 571.) This is where the trial court erred: it had thought the rate could be set by agreement or, absent agreement, at “any reasonable amount.” (Id. at p. 560.)

4. Wages and reimbursement are conceptually distinct — which cuts both ways. Plaintiffs’ strongest argument rested on section 200, subdivision (a), which defines wages as amounts “for labor performed.” Reimbursement is not payment for labor, so — the argument ran — a wage payment cannot discharge a section 2802 obligation. The court accepted the premise and rejected the conclusion. “Section 200 highlights a valid and important distinction between wages (as payment for labor performed) and business expense reimbursement,” and because the two are “subject to different statutory and sometimes also contractual constraints, an employer may not combine the payments for both in a way that would seriously hamper or effectively preclude enforcement of the various statutory and contractual obligations.” (Gattuso, supra, 42 Cal.4th at p. 572.) But that concern is about enforceability, not about form: combining the two is permissible so long as the combination remains transparent.

5. The apportionment requirement — implied, not written. This is the analytical core, and it is judicially constructed. The employer “must provide some method or formula to identify the amount of the combined employee compensation payment that is intended to provide expense reimbursement,” so that the employee “(and also officials charged with enforcement of state and federal wage laws) then can readily determine whether the employer has discharged all of its legal obligations as to both wages and business expense reimbursement.” (Gattuso, supra, 42 Cal.4th at p. 573.) The court was candid that the text does not say this: “Although section 2802 does not expressly require the employer to provide an apportionment method, it is essential that employees and officials charged with enforcing the labor laws be able to differentiate between wages and expense reimbursements. Because providing an apportionment method is a practical necessity for effective enforcement of section 2802’s reimbursement provisions, it is implicit in the statutory scheme.” (Ibid.)

6. The commission-rate variant carries a risk the employer bears. The court flagged a structural hazard in Harte-Hanks’s chosen method. An employer that reimburses through a higher commission rate “runs a risk that the employee, for whatever reason, may earn less commission income than the employer anticipated, so that the increase in the commission rate may be insufficient to provide full reimbursement for the automobile expenses that the employee necessarily incurred.” (Gattuso, supra, 42 Cal.4th at p. 573.) The obligation is absolute; tying it to a variable does not make it contingent.

7. Sections 226 and the DLSE materials do not forbid the practice. The court found “nothing in the language of section 226, subdivision (a), that prohibits an employer from discharging its reimbursement obligations under section 2802 by increases in base salary or commission rates,” observing that the itemized-statement duty is satisfied compatibly with the apportionment requirement already imposed. (Gattuso, supra, 42 Cal.4th at p. 574.) Looking forward, the court added a footnote directing that employers using this method “should, in providing the documentation required by section 226, subdivision (a), separately identify the amounts that represent payment for labor performed and the amounts that represent reimbursement for business expenses.” (Id. at p. 574, fn. 6.) As for the DLSE, its interpretation “because it was embodied in a void regulation, is not entitled to deference” under Tidewater Marine Western, Inc. v. Bradshaw (1996) 14 Cal.4th 557. (Id. at p. 574.) And in any event the agency had endorsed the actual-expense and mileage methods without ever “consider[ing] or reject[ing] other methods, such as the use of a lump-sum payment or enhanced compensation in the form of an increase in base salary and/or commission rates.” (Id. at pp. 574–575.) Agency silence proved nothing.

8. Why the class ruling could not stand. Because the Supreme Court’s construction differed from the trial court’s, the premises of the certification ruling were unsound. The trial court had reasoned that liability turned on whether each representative had an individual agreement about expense compensation and whether each one’s compensation was reasonable. (Gattuso, supra, 42 Cal.4th at p. 576.) Under the correct construction, an individual agreement cannot waive full reimbursement at all, which removes one of the two individualized inquiries. The court declined to decide certification itself, noting that the lower courts had not “considered whether these inquiries are capable of resolution on a classwide basis,” so “the class certification issue is to be reconsidered upon remand.” (Ibid.) There was no dissent.

Significance

Gattuso is the Supreme Court’s foundational construction of section 2802 for routine, recurring business expenses, and it is routinely cited for a proposition narrower than what it holds. It is not authority that an employer may simply pay people more and call the difference reimbursement. It is authority that an employer may do so only if it has established, in advance and in a form employees and enforcement officials can use, a method for apportioning the enhanced compensation — and only if the apportioned amount is in fact sufficient.

The apportionment requirement is the decision’s enduring contribution and its most vulnerable feature: it appears nowhere in section 2802 and rests on the court’s judgment that effective enforcement makes it “implicit in the statutory scheme.” (Gattuso, supra, 42 Cal.4th at p. 573.) In practice it is the element employers most often fail, because a compensation plan that was never designed as a reimbursement plan rarely contains a formula for separating the two.

The section 2804 analysis has broader reach than the automobile context. By holding that an agreed rate cannot cap the entitlement and cannot foreclose a challenge, the court made section 2802 claims resistant to the contractual defenses that defeat many wage theories — and, by eliminating the individual-agreement inquiry, materially improved the prospects for classwide treatment. That is why the certification ruling had to be reconsidered.

The decision also sits in the line — with Tidewater, and later Brinker and Kilby — in which the court consults DLSE materials without deferring to them, and declines to read agency inaction as agency approval.

Key quotes

“We conclude that an employer may satisfy its statutory business expense reimbursement obligation under section 2802 by paying employees enhanced compensation in the form of increases in base salary or commission rates, provided the employer establishes some means to identify the portion of overall compensation that is intended as expense reimbursement, and provided also that the amounts so identified are sufficient to fully reimburse the employees for all expenses actually and necessarily incurred.” (Gattuso v. Harte-Hanks Shoppers, Inc. (2007) 42 Cal.4th 554, 575.)

“Because providing an apportionment method is a practical necessity for effective enforcement of section 2802’s reimbursement provisions, it is implicit in the statutory scheme.” (Id. at p. 573.)

“[A]ny agreement made by the employee is null and void insofar as it waives the employee’s rights to full expense reimbursement under section 2802.” (Id. at pp. 569–570.)

“Section 200 highlights a valid and important distinction between wages (as payment for labor performed) and business expense reimbursement.” (Id. at p. 572.)

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Practice pointer

Open questions

What an adequate apportionment method looks like. The court required “some method or formula” communicated to employees (Gattuso, supra, 42 Cal.4th at p. 573) but did not specify its form, its timing, or the degree of precision required. Whether a general statement that a differential covers vehicle costs suffices, or whether a computable formula is needed, is left open.

Certification. The court expressly declined to decide whether the remaining inquiries “are capable of resolution on a classwide basis,” remanding the question. (Id. at p. 576.)

The scope of section 2802 itself. Harte-Hanks’s argument that section 2802 reaches only third-party-caused losses rather than routine employment expenses was rejected below and abandoned on review, so the Supreme Court did “not address it here.” (Id. at p. 560, fn. 3.)

Tax treatment. The court held that section 2802 “does not require an employer to use a reimbursement method that is congruent with any tax law or has any particular tax consequence,” while acknowledging that tax consequences “should be considered in determining whether a particular payment provides the full measure of reimbursement that section 2802 requires.” (Id. at p. 571.) How tax burden is to be quantified in that calculation is not addressed.