by Michael Futterman and Jaime Touchstone
Employers have long used paid vacation policies as a compensation benefit and a means of enhancing employee productivity. To keep pace in a competitive hiring market, many start-ups offer employees the right to take “unlimited” paid vacation. While “unlimited vacation” policies do offer certain benefits, the law on such policies is currently undeveloped, and employers must pay careful attention to implementation and administration to minimize legal risks. 
What is the law on paid vacation?
Most employers are not legally required to provide paid vacation to employees. If an employer institutes a paid vacation policy, it must comply with applicable laws in administering the policy. A vacation plan may provide for the earning of benefits on a daily, weekly, or pay-period basis.
Many states have laws that say accrued vacation constitutes earned wages and cannot be forfeited. Accordingly, a policy that provides for the forfeiture of vacation pay that is not used by a specified date—sometimes called a “use it or lose it” policy—are illegal in those states.
In states that ban “use it or lose it” policies, employers still have the right to manage the use and accrual of vacation. Paid time off (PTO) policies—by which PTO days may be used for any purpose, including vacation and sick leave—generally are subject to the same rules as traditional vacation policies.
Benefits of unlimited vacation policy
To remain competitive in hiring, many companies are instituting “unlimited vacation” policies as an employment benefit. With such a policy, employees do not have a designated amount of vacation that accrues. Rather, the employer allows employees to take vacation upon request, subject to its business needs.
Unlimited vacation enthusiasts assert that these policies boost morale in the workplace. The policies reflect a business that treats its employees as responsible adults by allowing them greater freedom to take vacation as needed and the flexibility to manage work and personal time. Furthermore, time off from work enhances an employee’s work-life balance, resulting in efficiency and productivity while he is at work.
From an employer’s perspective, allowing employees to take unlimited vacation time subject to the needs of the business offers a job perk at little or no overhead cost. Such policies also reduce an employer’s administrative burden of tracking vacation or PTO accrual. Finally, because employees are not “accruing” paid vacation time, employers may be able to avoid reimbursing terminated employees for accrued but unused vacation.
Pitfalls of unlimited vacation policy
Critics argue that “unlimited vacation” policies are susceptible to abuse by employees wanting to enjoy unreasonable amounts of vacation time. Further, these policies do not eliminate the need for employers to manage employee vacation schedules in light of business requirements. And since most employers will continue to track and restrict the amount of vacation taken by employees, employees may argue that an unlimited vacation policy is really not unlimited. If it appears as though employees are technically accruing paid vacation, an employer may still be required to pay out accrued but unused vacation upon termination.
Employers also must carefully align an unlimited vacation policy with an employee’s right to other leave benefits, including sick leave, family and medical leave, military leave, and pregnancy leave. Otherwise, a crafty employee may try to argue that an unlimited vacation policy requires full payment of all leave time. Finally, when an employer allows employees to take vacation as needed but simultaneously expects them to remain online and available, often the benefits of vacation are negated, potentially hurting employee morale.
Tips for implementing vacation policies
Any vacation or PTO policy should be clearly articulated in a company’s handbook and disseminated to employees. Unlimited vacation policies are generally more appropriate for exempt employees, who already have a substantial degree of flexibility and responsibility in managing their work assignments and personal time. Traditional vacation policies are generally more appropriate for nonexempt employees, who are compensated for hours worked and therefore will not generally take time off without the assurance of some form of paid vacation.
For these reasons, any vacation policy should clearly explain which classifications of employees are eligible for paid or unlimited vacation. You should communicate that employees must meet employer productivity expectations regardless of vacation used and explain that any abuse of a vacation policy may result in discipline, up to and including termination. You should require management approval of employee vacation requests, but you must simultaneously ensure that managers uniformly administer the request and approval process to avoid claims of favoritism or discrimination.
Finally, if you are considering a switch to an unlimited vacation policy, you should provide employees with reasonable notice and sufficient time to use their preexisting benefits. You may also choose to cash employees out by paying them for accrued but unused vacation at the time of the transition.
Bottom line
The increasing adoption of unlimited vacation policies has largely been pioneered in the world of technology companies. This development illustrates how changes in the workplace have challenged traditional notions of employee benefits and the legal rubrics created to protect them. It also illustrates how changes in the workplace can be driven not only by employers’ economic considerations but also by employee expectations, particularly younger employees who perceive these sorts of policies as providing greater “freedom.”
Michael Futterman is a partner with Futterman Dupree Dodd Croley Maier LLP in San Francisco. He may be contacted at mfutterman@fddcm.com.
Jaime Touchstone is an attorney with Futterman Dupree Dodd Croley Maier LLP in San Francisco. She may be contacted at jtouchstone@fddcm.com.