This week, the California Supreme Court filed a decision in Naranjo v. Spectrum Security Services, Inc., S279397, holding that “an employer’s objectively reasonable, good faith belief that it has provided employees with adequate wage statements precludes an award of penalties under section 226.”

On its face, this is a small win for California employers. Especially so as it compares to the Court’s numerous decisions that have dramatically increased employers’ risk of facing representative class/PAGA lawsuits, the cost of defending those suits, and the amount of potential liability. But the Court’s analysis in the Naranjo decision indicates that an employer’s reasonable and good faith belief that it complied with the Labor Code might, and certainly should, preclude an award of civil penalties under PAGA.

Background on the Naranjo Case

The California Supreme Court’s First Naranjo Decision: Pay for Missed Breaks Constitute “Wages”

As noted in this week’s Naranjo decision, “In the approximately decade and a half since it was filed, the case has taken a number of turns up and down the court system.” This is the second time in two years that the Naranjo case has been before the California Supreme Court. 

In 2022, the Court filed a decision holding that extra pay for missed breaks—i.e., meal and rest period premium/penalty pay (Lab. Code, § 226.7)—constitutes “wages” that must be reported on itemized wage statements (Lab. Code, § 226) and must be paid within statutory deadlines when an employee leaves the job (Lab. Code, § 203). The case was then remanded to the Court of Appeal to address Spectrum’s arguments that (1) Naranjo was not entitled to recover statutory penalties for wage statement violations because Spectrum’s violations were not “knowing and intentional” (Lab. Code, § 226(e)), and (2) Naranjo was not entitled to recover waiting time penalties for Spectrum’s late payment of final wages because it did not act “willfully” (Lab. Code, § 203). See CDF's prior blog post here.

The California Court of Appeal’s Decision on Remand: Violations That Are Not Willful Are Not Knowing and Intentional

The Court of Appeal affirmed the trial court’s decision that Spectrum was not liable for the failure to timely pay break premium wages because the failure was not “willful.” The Court of Appeal found substantial evidence supported the conclusion that Spectrum had a good faith basis for believing it was not liable. It also found that the section 203 “willfulness” requirement and the section 226 “knowing and intentional” requirement are substantially identical, so the same finding of good faith that precluded an award of penalties under section 203 precluded an award of penalties under section 226. The California Supreme Court then granted Naranjo’s petition for review.

This Supreme Court’s Review: Unanimous Decision to Affirm

The Supreme Court unanimously agreed that an employer that believes reasonably and in good faith, albeit mistakenly, that it provided compliant wage statements does not fail to comply with those requirements “knowingly and intentionally,” and thus is not liable for an award of penalties under section 226. 

Naranjo’s Immediate Impact on California Wage and Hour Litigation

Under section 226(e), knowing and intentional wage statement violations give rise to a claim for penalties of up to four thousand dollars ($4,000), along with the plaintiff’s costs and reasonable attorney's fees. California employers have become accustomed to wage and hour litigation involving “derivative” wage statement claims that are predicated on a separate Labor Code violation. For example, many lawsuits claim employees were required to work off the clock during meal breaks—i.e., the employer failed to rerecord and compensate for all hours worked—and thus the employees’ wage statements failed to accurately show all hours worked and all earned wages. 

The Naranjo decision significantly reduces potential liability arising from technical and “one-off” Labor Code violations for those employers who made reasonable and good faith efforts to comply with the Labor Code, and who believe they are complying with the law. In representative lawsuits, plaintiffs often claim that the alleged wage statement violations and waiting time penalties, by themselves, give rise to at least $8,000 per employee. 

Employers acting in good faith can now remove that arbitrary assessment of potential liability from their calculus in determining how to defend and/or resolve lawsuits.

Naranjo’s Potential Impact on PAGA Litigation: Good Faith Defense to Preclude a Civil Penalty Award?

The Supreme Court’s analysis in Naranjo offers some hope for good faith employers who are suffering the Golden State’s Private Attorneys General Act (PAGA). PAGA allows “aggrieved employees” to file a civil action in which they represent the State’s labor law enforcement agencies, wherein they allege any number of Labor Code violations against themselves and other current or former employees, and from which they may recover a civil penalty—typically $100—for each Labor Code violation against each employee. Even de minimis technical violations can give rise to a PAGA claim. Moreover, prevailing PAGA plaintiffs may also recover their attorney fees and costs. 

The potential penalties stack up and continue to accrue during the litigation, which is difficult and costly to defend. As a result, most employers are forced to settle PAGA cases—the cost of defense coupled with the threat of potential civil penalty liability and plaintiff’s attorney fees is simply too much to bear. 

Although the Naranjo decision expressly establishes a “good faith” defense against claims for statutory penalties under section 226, the Supreme Court’s analysis indicates that employers acting in good faith are also not liable for civil penalties under PAGA. For example, the Court explained that, as a general rule, “courts refuse to impose civil penalties against a party who acted with a good faith and reasonable belief in the legality of his or her actions.” And that if employees are “fully compensated, penalties will generally not be imposed unless there has been a grossly negligent, willful or fraudulent breach of a duty.” Further, the Court explained “civil penalties are frequently aimed at some positive element of conscious wrongdoing or bad faith.” The Court acknowledged that civil penalties are meant to “deter and punish.” Thus, employers “who proceed on a reasonable, good faith belief that they have conformed their conduct to the law's requirements do not need to be deterred from repeating their mistake, nor do they reflect the sort of disregard of the requirements of the law and respect for others’ rights that penalty provisions are frequently designed to punish.”

Notably, the Court’s discussion on the good faith defense does not distinguish between civil penalties and statutory penalties. And the Court gave no indication that its analysis or the “good faith” defense should be limited to claims for statutory penalties. In fact, the Court noted only that its discussion is not intended to upset settled interpretations of criminal provisions, and that it “concerns only the availability of civil penalties in the Labor Code.” 

This gives hope for employers who have and continue to invest in their Labor Code compliance efforts and thus have a reasonable and good faith belief that they are in compliance. Those efforts, coupled with a valid and enforceable arbitration agreement that precludes class and collective action claims, are the best lines of defense for California employers. And we may soon find that those compliance efforts, even when they are imperfect, will prevent liability under PAGA.