Vacation forfeiture policy prohibited

The case arose from a terminated employee denied payout of her earned, accrued vacation. The employer relied on its policy, which stated that any employee discharged or voluntarily separated without two weeks’ written notice would not receive payout of unused, accrued vacation time.
 

The Colorado Wage Claims Act (CWCA) generally defines wages and compensation as “earned, vested, and determinable.” The law expressly includes “vacation pay” as a type of protected wage or compensation. However, the employer argued that the CWCA doesn’t apply in this case because the earned but unused vacation time never vested in light of the policy’s forfeiture provision. Both the trial court and the appeals court agreed, and found that the forfeiture was permissible.
 

Agency action

After the appeals court issued its opinion in 2019, the Colorado Department of Labor and Employment (CDLE)’s Division of Labor Standards and Employment issued a rule (7 Colo. Code Regs. § 1103-7-2.17) contradicting the appellate court holding. The rule notes that language added to the wage law in 2003 requiring an employer to pay out unused vacation time on separation “in accordance with the terms of any agreement” did not allow forfeitures.
 

Final ruling

Reversing the appellate court, the high court held that the CWCA doesn’t create a right to vacation pay, but when an employer chooses to provide paid vacation, it is no less protected than other wages and compensation and does not have to be vested. Under the CWCA, employers must pay all earned and determinable vacation time on separation, and any agreement calling for forfeitures of earned vacation pay is void. The court also reviewed the CDLE rule on vacation forfeiture and found that the agency’s interpretation conforms with the statute’s purpose, language, structure, and legislative history.
 

Vacation regulation

In accordance with the CDLE regulation, forfeiture of earned vacation is impermissible, but employers’ vacation agreements with Colorado employees may contain the following provisions:
 

• Whether the employee will receive any vacation pay at all
• How much vacation pay per year or other period the employee will earn
• Whether vacation pay will accrue all at once or proportionally each week, month, or other period
• Whether a cap of one year’s worth (or more) applies to vacation pay accruals

As a result, employers may have policies that cap employees’ vacation pay at a year’s worth of accruals or some other accrual limit, but cannot require forfeiture of any of the accruals earned.
 

Other states’ forfeiture rules

State wage laws often fail to specify whether an employer must pay out unused, accrued vacation at termination or can implement a use-it-or-lose-it strategy. Instead, regulations, court rulings or both clarify this issue. In general, many states allow an employer to dictate the terms of its vacation policy, as long as it’s in writing and clearly communicated to employees. In addition, most states consider paid time off (PTO) that has no special designation to be vacation.
 

The chart below includes a sampling of states with relatively clear positions on vacation forfeiture. In some cases, the law requires payout at termination but allows a clearly stated use-it-or-lose it provision, as long as the policy gives employees a reasonable amount of time to use earned vacation before losing it (e.g., Illinois and Massachusetts). In other cases, earned vacation cannot be forfeited at any time (e.g., California, Colorado and Montana), but in other states, the issue remains unclear.

Employer takeaways

States have different positions on whether vacation and PTO policies must provide for payout at termination or can include a use-it-or-lose-it provision. Some states require payout of unused, accrued vacation unless the employer’s written policy and consistent practice in administering that policy clearly indicate when forfeiture of accruals may occur. Businesses that want to curtail accruals in states that ban use-it-or-lose-it provisions may want to explore capping the amount of accruals. For example, a policy could limit accruals to 80 hours so employees hitting that limit can’t accrue additional time before using some.
 

The following approaches may guide employers’ vacation policy designs:
 

• Determine the law of the state where employees work, regardless of where they reside
• Decide on a carryover provision, where permitted
• Consider a cap on accruals in states that don’t allow a use-it-or-lose-it provision
• Develop a written PTO or vacation policy detailing how time is accrued and what employees can do with the accrued time
• Provide clear employee communications on the policy’s terms (consider including in the employee handbook)
• Changes accrual and usage terms only on a prospective basis
• Do not forfeit any accrued vacation or PTO except as permitted by state law and outlined in the written policy and other employee-facing communications
• Establish a process for consistent administration of the policy, including calculation of accrued time and payment, if applicable

Related resources

Non-Mercer resources

• Nieto v. Clark's Market, Inc., 2021 CO 48 (June 14, 2021)
• Colorado Wage Claims Act (CO. Rev. Stat § 8-4-101 et seq.)
• 7 Colo. Code Regs. § 1103-7-2.17

Mercer Law & Policy resources

• Paid sick leave mandates continue to expand at state level (Feb. 8, 2021)