A manufacturing employee fails to follow proper procedure and damages an expensive piece of company equipment. An administrative aide uses a company computer to access pornography and causes a virus to infect the company's computer system. A terminated sales person fails to return a company cell phone. These and similar scenarios are all too familiar to employers.

As a result, many employers have a policy requiring employees to reimburse them for these types of losses, usually through payroll deductions or a deduction from the employee's final paycheck. These policies generally reflect employers' legitimate concerns about lost revenue resulting from employees' negligent or willful misconduct. From an employer's viewpoint, such policies are a matter of security and fairness, particularly when reimbursement is required only for intentional misconduct or damage resulting from unauthorized use of company property.

Before implementing such a policy or executing an agreement with an employee to authorize payroll deductions for damage or loss to company property, employers should be aware that many states and the federal government have laws restricting or even prohibiting an employer's ability to make such payroll deductions. The following is a brief discussion of California and federal law.

For information on the payroll deduction laws of other states, see the applicable state topic page on Compensation.BLR.com.

Note that where state and federal law address the same matter, the law most protective to the employee applies.

California law. Generally, under California law, an employer may withhold money from an employee's wages only when authorized:

• By state or federal law (CA Lab. Code Sec. 224).
• In writing by the employee, and for insurance premiums, hospital or medical payments, or other withholdings that do not amount to rebates from any standard wage arrived at through collective bargaining (CA Lab. Code Sec. 224).
• Expressly by wage agreements or collective bargaining contracts for the purposes of health and welfare or pension plan contributions (CA Lab. Code Sec. 224).
• By court order for the payment of child support, alimony, or other debts.
• By a wage assignment evidenced by a separate, notarized document signed by the employee and specifically identifying the transaction to which it relates. If the employee is married or a minor, the assignment must be accompanied by the signed consent of the employee's spouse or parent. An assignment is limited to 50 percent of the employee's salary and is revocable at any time (CA Lab. Code Sec. 300).
• By the employee for deposit in a bank, savings and loan association, or credit union of the employee's choice.

An employer may not deduct for cash shortage, breakage, or equipment loss unless caused by the employee's gross negligence, or dishonest or willful act . An employer may deduct from a final paycheck the cost of a uniform, tools, or equipment not returned by a terminated employee within a reasonable time, if the employee gave the employer prior, written authorization to do so and if the employer can show that the employee committed theft or was negligently responsible for the loss.

Defining “gross negligence” and “willful or dishonest acts.” The California Department of Industrial Relations and court decisions have narrowly interpreted the terms “gross negligence” and “willful or dishonest acts.”  The Department has explained that while a deduction may be legal if the employer proves that the loss resulted from the employee's dishonesty, willfulness, or grossly negligent act, a simple accusation does not give the employer the right to make the deduction. The Division of Labor Standards Enforcement (DLSE) has cautioned that use of this deduction may, in fact, not comply with the provisions of the California Labor Code and various California court decisions.

Furthermore, DLSE will not automatically assume that an employee was dishonest, acted willfully or was grossly negligent based on an employer's assertion to justify making a deduction from an employee's wages to cover a shortage, breakage, or loss to property or equipment. According to DLSE, “[t]he Labor Code clearly prohibits any deduction from an employee's wages which is not either authorized by the employee in writing or permitted by law, and any employer who resorts to self-help does so at its own risk as an objective test is applied to determine whether the loss was due to dishonesty, willfulness, or a grossly negligent act. If an employer makes such a deduction and it is later determined that the employee was not guilty of a dishonest or willful act, or grossly negligent, the employee would be entitled to recover the amount of the wages withheld. Additionally, if the employee no longer works for the employer who made the deduction and it's decided that the deduction was wrongful, the employee may also be able to recover the waiting time penalty.”

The Department has also observed that “'gross negligence' has been defined as an extreme departure from the ordinary standard of conduct, as an entire failure to exercise care, as the exercise of so slight a degree of care as to justify the belief that there was an indifference to the interest and welfare of others, and as that want of care that raises a presumption of conscious indifference to consequences. A determination of gross negligence is a legal conclusion that can only be arrived at by a court of law .” (Emphasis added.)

Thus, depending on the circumstances of the loss or damage, an employee's negligent or intentional misconduct may not constitute gross negligence, or a dishonest or willful act for purposes of the law.

Federal law. Under the federal Fair Labor Standards Act (FLSA), a deduction for loss or damage may be made if two conditions are met:

• The employee signed a written agreement prior to the shortage (at the start of employment or when the policy related to deductions is adopted) by which he or she agrees to such a deduction; and
• The deduction does not bring the employee's hourly rate below the minimum wage.

The second criterion clearly applies to nonexempt employees. Employees who meet the dual duties and salary tests are exempt from minimum wage and overtime laws. For exempt employees, this type of wage deduction is not allowed.

For more information on exempt employees, see the Exempt Employees legal analysis on Compensaton.BLR.com:.

In an Opinion Letter, the Department of Labor (DOL) stated that deductions from exempt employees' paychecks are not permissible, even if the employee signed a written agreement authorizing the deductions. The Wage and Hour Division of the DOL takes the position that “deductions from the salaries of otherwise exempt employees for the loss, damage, or destruction of the employer's funds or property due to the employees' failure to properly carry out their managerial duties (including where signed “agreements” were used) would defeat the exemption because the salaries would not be “guaranteed” or paid “free and clear” as required by the regulations.  Such impermissible deductions violate the regulation's prohibition against reductions in compensation due to the quality of the work performed by the employee.  Consequently, any deductions made to reimburse the employer for lost or damaged equipment would violate the salary basis rule.”

For the complete text of the Opinion Letter, see: https://www.dol.gov/whd/opinion/FLSA/2006/2006_03_10_07_FLSA.htm

Employer Options. While employers may be limited or prohibited from deducting from employees' paychecks for loss or damage to company property, they can take other affirmative steps to limit their losses from employee negligence or willful misconduct.

• Discipline. If an employee causes damage or loss because of poor performance, the employee should be subject to discipline in the same manner as employees with other performance issues.
• Termination. In the absence of a collective bargaining agreement or other employment contract, employees can generally be terminated at the will of the employer. Employers should include a provision in their discipline policies reserving the right to impose discipline, up to and including termination, in any situation they deem appropriate. Willful or intentional misuse of company property resulting in significant loss could be grounds for immediate termination.
• Civil Suit. Employers can file a civil suit or make a claim in small claims court to recoup the money owed for the loss or damage.