Employers often have applicants or newly hired employees sign arbitration agreements. However, the California Supreme Court has held that an employee’s representative action brought on behalf of himself and other current and former employees under the Private Attorneys General Act of 2004 (PAGA) is not subject to arbitration.
But what happens if an employee files a lawsuit that includes both representative claims under the PAGA as well as individual claims for unpaid wages? May the employer enforce arbitration of the individual claims for unpaid wages, even though PAGA claims aren’t subject to arbitration? A recent case before the California Court of Appeal answers that question.
Employee Sues for Wage and Hour Violations
In January 2012, “Samuel” completed an employment application with KS Industries, L.P. The application included an arbitration provision in which he agreed that if he was hired by the company, “all disputes that cannot be resolved by informal internal resolution which might arise out of [his] employment with the company, whether during or after that employment, will be submitted to binding arbitration.”
In 2015, Samuel filed a lawsuit against KS Industries on behalf of himself and other current and former aggrieved employees for 16 violations of the California Labor Code based on the company’s alleged failure to pay minimum and overtime wages, provide meal periods and rest breaks, pay wages in a timely manner, provide complete and accurate wage statements, and reimburse business expenses.
The complaint included a single claim for violation of the PAGA. Samuel sought to recover unpaid wages, civil penalties, interest, attorneys’ fees, and costs as well as statutory penalties for each aggrieved employee calculated on the number of pay periods in which a violation occurred. He specifically sought to recover unpaid wages under Labor Code Section 558.
Employer Tries to Compel Arbitration
KS Industries asked the court to compel arbitration and halt the litigation on the grounds that the true nature of the relief sought wasn’t civil penalties under the PAGA but rather individualized damages, wages, reimbursement, and statutory penalties. According to KS Industries, these victim-specific types of relief aren’t “civil penalties” that the PAGA and the Iskanian rule (more on this below) preclude from being arbitrated.
Samuel argued that a claim for civil penalties under the PAGA isn’t subject to arbitration and that the civil penalties recoverable under the PAGA include the recovery of wages sought in this case.
The trial court denied KS Industries’ request to compel arbitration and struck the words “statutory penalties” from the complaint based on Samuel’s contention that he sought only PAGA civil penalties and no individual damages. KS Industries appealed.
Must Employee Arbitrate Individual Claim for Unpaid Wages?
KS Industries argued that the trial court’s failure to order arbitration violated the Federal Arbitration Act (FAA) because the claims sought individualized relief and were covered by the parties’ arbitration agreement. Further, the rule adopted by the California Supreme Court in Iskanian v. CLS Transportation Los Angeles, LLC, prevents the arbitration of claims only in representative actions that seek “civil penalties”—i.e., monetary relief that is allocated 75 percent to the Labor and Workforce Development Agency (LWDA) and 25 percent to the aggrieved employees. According to KS Industries, “civil penalties” don’t include unpaid wages payable solely to the aggrieved employee.
On the other hand, Samuel argued that the lawsuit was a representative action under the PAGA and that the trial court properly applied the Iskanian rule by concluding that the lawsuit was a PAGA representative action not subject to arbitration.
The appellate court agreed with KS Industries. If the FAA requires a claim to be arbitrated, a contrary state law is preempted. The FAA requires the enforcement of arbitration agreements covering private disputes. In this case, the arbitration agreement covered claims arising from the employment relationship, including a claim for unpaid wages.
However, since the state of California wasn’t a party to the agreement, claims brought on its behalf weren’t subject to arbitration. Accordingly, under the FAA, claims that are private disputes between an employer and an employee must be arbitrated, and the claims brought on behalf of the state of California need not be arbitrated.
The Iskanian rule holds that PAGA representative claims for civil penalties aren’t subject to arbitration. The appellate court concluded that for purposes of the Iskanian rule, PAGA representative claims for civil penalties apply only when a portion of the penalties recovered are allocated to the LWDA. Since claims for unpaid wages based on Labor Code Section 558 aren’t allocated to the LWDA, the Iskanian rule doesn’t exempt such claims from arbitration.
Applying the above rules, the appellate court concluded that some of Samuel’s claims are PAGA representative claims that seek civil penalties, and those claims aren’t subject to arbitration under the Iskanian rule. However, Samuel also filed private claims for individualized relief, such as claims to recover wages under Labor Code Section 558, and the Iskanian rule doesn’t exempt such claims from arbitration.
The appellate court sent the matter back to the trial court for further proceedings to allow Samuel to state whether he intends to pursue claims to recover wages under Labor Code Section 558 that are subject to arbitration. If he intends to pursue the claims for unpaid wages, the trial court must order those claims to arbitration and decide whether to halt the litigation until the arbitration is completed.
On the other hand, if he intends to limit the claims pursued to PAGA representative claims seeking civil penalties and to waive the claims for individualized relief, then his claims aren’t subject to arbitration, and the case can proceed in court. Esparza v. KS Industries, L.P. (California Court of Appeal, 5th Appellate District, 8/2/17).
Bottom Line
Mandatory employment arbitration agreements that comply with California law are generally enforceable. However, if an employee files representative claims on behalf of himself and other employees under the PAGA to recover civil penalties, those claims are not subject to arbitration.
This case clarifies that if an employee files a lawsuit that includes both representative claims under the PAGA and individual claims for relief, then the individual claims will be subject to arbitration, but PAGA claims will not. If that occurs, the employer will generally ask the court to halt litigation of the PAGA claims until the arbitration is complete.
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Cathleen S. Yonahara, an editor of California Employment Law Letter can be reached at Freeland Cooper & Foreman LLP in San Francisco, yonahara@freelandlaw.com.