Commission agreements can create a conflict between employers, who understandably don’t want to pay a commission on a sale that may ultimately be canceled, and employees, who don’t want to wait out the entire cancellation period before getting paid. Some employers have tried to strike a balance by paying commissions before that period expires but providing in the commission agreement for a “chargeback” if sales are subsequently canceled.

The California Court of Appeals considered just such an agreement in a recent case and ruled that the employer could “charge back” commissions paid out in advance for canceled sales. Read on to learn what the court expects from an enforceable chargeback provision.

Salesman sues over chargeback provision
"Samuel" was a retail sales representative for Verizon Wireless from August 2004 to April 2005. Under Verizon’s compensation plan, sales reps received an hourly wage plus monthly commissions.

Commissions on the sale of cell phone service plans were paid in advance if certain conditions were met, but they weren’t considered earned until the expiration of a chargeback period during which the customer could cancel the service. If a customer disconnected service during the chargeback period, the employee’s future commission advances would be reduced by the amount advanced for the sale that fell through.

The compensation plans included an acknowledgment form, and the employee’s signature on the form acknowledged that the plan would govern how commissions were advanced, earned, and issued. The plans did not require employees to sign the acknowledgment form, and Samuel did not do so. Verizon provided a written copy of the plan to new sales reps, reviewed it with them, and trained them on how the plan worked.

After Samuel resigned in April 2005, he filed a complaint on behalf of himself and a class of other retail sales reps under the state Private Attorneys General Act, seeking civil penalties against Verizon for violating Section 223 of the California Labor Code. Section 223 prohibits the secret underpayment of wages when a statute or contract requires an employer to maintain a designated wage scale.

Samuel alleged that Verizon violated Section 223 by unlawfully taking chargebacks from the earned commissions of its sales representatives. The trial court dismissed the case before trial, and Samuel appealed.

Court sides with the employer
The Court of Appeals found that while Section 223 applies to wages, and sales commissions are wages, the right to a commission depends on the terms of the contract for compensation. Employees must satisfy the applicable contractual terms before they are entitled to commissions.

Under the Verizon agreement, commissions were earned and payable only if the customer didn’t discontinue the cell phone service plan during the chargeback period. Until then, Samuel had not made a commissionable sale. Any funds he received based on that sale represented an advance—and commission advances aren’t wages.

When a chargeback occurred, the sales rep received a reduced amount of the next advance to account for the earlier advance that never became a commissionable sale. As the court explained, this policy didn’t underpay wages because the payments were advances.

Samuel alternatively contended that the chargeback provision violated Section 223 because the sales representatives were secretly underpaid the commissions they had earned under the compensation plan.

But, as the Court of Appeals pointed out, Section 223 is intended to address the problem of employers taking secret deductions or kickbacks from their employees. The secret is being kept from “applicable enforcement authorities,” not from employees, and is not the underpayment but the existence of the employer’s obligation to pay more.

That wasn’t the case here. The chargeback provision didn’t require the employees to pay back part of their wages or secretly deduct amounts owed so the employees were earning less than specified in the compensation plan.

The provision only reconciled commission advances—not earned commissions—by reducing the next advance on commissions to the employee. This practice, the court held, doesn’t violate Section 223 because the employees were paid commissions owed to them on commissionable sales as set forth in the compensation plan.

Continued employment constitutes consent
It’s worth noting that the Court of Appeals upheld the chargeback provision even though Samuel never signed the acknowledgement form. Samuel, in fact, argued that a chargeback provision violates Section 223 unless the employee has read, signed, and authorized the deductions.

Section 223, however, doesn’t state that the compensation or wage contract must be a written contract signed by the parties. Moreover, the compensation plan stated that a sales representative consented to it by either written acknowledgment or continued performance. Thus, the court found, Samuel’s continued performance of his sales rep job was his assent to be bound by the plan’s terms.

Similarly, the court batted away Samuel’s claim that there was no “meeting of the minds” on his compensation because he didn’t understand what the term “advances” meant. It observed that Samuel received copies of the compensation plan, receiving training on the chargeback provision, and received commission statements setting forth his commission advances and chargebacks.

Those undisputed facts, the court concluded, established that Samuel understood he would be compensated under the plan’s terms, and his previously unexpressed lack of understanding of the term “advances” wasn’t enough to get his case to trial. Deleon v. Verizon Wireless, LLC, Calif. Court of Appeals (Dist. 2) No. B233226, 2012

How’s your chargeback provision?
Verizon’s chargeback provision was solidly drafted. It clearly expressed the conditions for earning a commission and stated that payments were advances until the sales were final. Review your chargeback provision to see if it’s equally clear and make sure you provide it to your sales representatives before they begin work for you.

Practice Tip: An advance doesn’t qualify as a ‘wage’ because all of the conditions for payment have not yet been satisfied.