High tech companies continue to change our world and how we work.  Netflix, Ask.com, Best Buy, Zynga, Evernote, Hubspot and others recently have re-imagined vacation benefits for their own employees by shifting from traditional vacation plans to an unlimited vacation policy.  This article examines the pros and cons of unlimited vacation policies, including how California and federal law apply to such policies, in an effort to help the reader determine if an unlimited vacation policy could work for their company.

“We optimize for innovative results instead of inflexible rules, and we believe doing so gives the employees the autonomy to be awesome.”

Dahrmesh Shah, co-founder and CTO of Hubspot, advocating for the use of unlimited vacation policies.[1]

So what is an unlimited vacation policy?  An unlimited vacation policy does not accrue vacation time based on the amount of time worked.  Instead, workers can take as much or as little paid vacation time as they want, so long as they meet the company’s specific objectives. In contrast, a traditional vacation plan assumes that there is a clear distinction between work time and vacation time.  Vacation credit for time worked by an employee is accrued, and each hour worked is assumed to have the same value in terms of productivity.  These assumptions and traditional vacation plans are currently being challenged by high tech and start-up companies where the line between personal and work time has become blurred, and where one good idea on the beach can be more valuable than thousands of hours of work at the office.

Does an unlimited vacation policy make sense for a California -based company?  In order to answer this question, let’s consider the law as it affects the various categories of employees.

  1.  Can all employees participate in an unlimited vacation policy?

One of the primary attractions of an unlimited vacation policy is that the employer can eliminate the bureaucratic task of tracking time worked and not worked.  While employers may legally not track the time of their employees who are exempt under the Federal Labor Standards Act and California wage and hour law, they are compelled by law to keep time records for all their employees who are classified as non-exempt.[2]  The time records for non-exempt employees must also be available for the employees’ inspection and the inspection of state and federal government agencies.[3]

Keeping detailed records of non-exempt employees’ time worked is necessary because they are entitled to overtime premium pay, reporting time pay, split shift pay and also must be provided with rest and meal periods based on the number and pattern of hours they work during each defined work day and work week.  Therefore, unlimited vacation policies are not practical for non-exempt employees because the hours they work and do not work during each pay period must be precisely recorded even if the employer chooses to implement unlimited vacation time for non-exempt employees.

Since it is only practical to provide exempt employees with unlimited vacation policies, employers will likely keep a traditional vacation policy for non-exempt employees.   Having to administer two vacation policies instead of one may increase rather than decrease the time spent administering vacation policies. But then there is the Mozart factor.

  1.  What would Mozart do?

If  Mozart were alive today, it’s probably a good guess that he would work for the employer/benefactor who provided an unlimited vacation policy, and his unfettered, prolific genius would rock the world. An unlimited vacation for creative, highly motivated professionals and executives could allow them to get recharged after intensive, highly productive periods of 24/7 work. Therefore an unlimited vacation policy which targets exempt employees who work on creative and developmental innovation could allow start-ups and high tech companies to effectively recruit such individuals who are crucial to success.  I call this the Mozart factor.

  1. How will your employees view an unlimited vacation policy?

Employee perception of an unlimited vacation policy varies greatly depending on a company’s work flow and levels.  If your employees are so overworked that they rarely can take their accrued vacation, they may perceive an unlimited vacation policy as a policy of no vacation time and no payment for unused vacation time.  If your company has most of the work occur during only certain times of year (e.g. an accounting firm just prior to tax reporting deadlines), and less work occurs at other times, your exempt employees may see an unlimited vacation policy as a huge benefit.

One risk is that  non-exempt co-workers who are not eligible for unlimited vacation time may develop morale problems when the exempt employees take frequent and much longer vacations than the non-exempt employees can take.  Therefore, it is good practice to discuss the possibility of having an unlimited vacation policy with your exempt and non-exempt employees prior to its implementation.

  1.  Will an unlimited vacation policy result in costly and longer leaves of absence?

Most of the legally required leaves of absence under federal and California law allow for time off from work, but not necessarily with pay.  For example under California and federal law, it is possible for a woman to take off up to a total of seven months off from work for a pregnancy and have the right to return to her same or comparable job.  If such that woman’s company has a traditional vacation policy that only provides two to three weeks per year of vacation pay, she will only receive a portion of her regular income during this seven-month leave by using a combination of state disability insurance, California paid family leave, and whatever vacation and sick pay she may have accrued.  However, if her company has an unlimited vacation policy, she could receive full pay for all seven months.  In addition, employees who go out on leave due to disabilities could have full pay for the length of their disability leave which could be years.  If an employer refuses to allow these employees to use their vacation during these disability leaves, it could risk exposure for disability discrimination.

The inadvertent impact of an unlimited vacation policy might be that employees who go out on such legally protected leaves will have very little incentive to apply for state insurance programs due to paperwork and restrictions, and very little incentive to return from their leaves as soon as possible.  These leaves may become much more costly for employers as employees stay out longer with full pay. However, having a well thought out incentive pay program that provides for compensation including stock options, commission and bonuses for those employees who are actively working could effectively encourage employees to return from leaves as soon as they are able.

  1. Will the inherent lack of clear guidelines in unlimited vacation policies result in more exposure for claims of discrimination and unfair treatment?

If a company offers an unlimited vacation policy, will the company require that an employee’s vacation plans be subject to their manager’s approval?   Each company should carefully consider whether allowing its employees unfettered discretion to take vacation whenever desired is realistic given the needs of the company and the attributes of their employees.

If employees are required to obtain approval for their vacation plans, will the lack of clear guidelines regarding the length of vacation time result in increased company exposure for discrimination and unfair treatment?  For example, if a manager only allows employee A to take a short vacation but allows employee B to take a long vacation, this could result in a discrimination claim especially if employee A is in a protected class under civil rights law.  In order to minimize this legal exposure, a company with an unlimited vacation plan would need to have a clear and well-maintained performance objective and review process to support the manager’s decision to justify the relatively low amount of vacation time provided to employee A.  Therefore companies considering an unlimited vacation policy should review their objectives for all their employees and ensure they are clear and measurable.  Companies should also ensure the objectives are enforced through a documented review process.

  1. Changing from a traditional vacation plan to an unlimited vacation policy: pay now or maybe pay more later.

Most existing companies already have traditional vacation plans and many of their employees have accrued unused earned vacation time.  It is critical that companies with pre-existing traditional vacation benefits plan their transition to unlimited vacation plans carefully.  California law considers accrued, unused vacation time to be earned wages which cannot be forfeited, and must be paid out, if not used, no later than the last day of employment.[4]  The safest way for a company with an existing traditional vacation plan to implement an unlimited vacation plan is to pay out the value of all accrued, unused vacation pay prior to implementing the unlimited vacation plan.

Paying out all this vacation pay at once may be expensive for a company.  However, if this accrued vacation pay is not paid out while time records are still being kept, it will be very difficult to prove what accrued vacation pay has been utilized and what accrued vacation pay has not been utilized after the company stops keeping track of time worked and time spent on vacation.  This could result in wage claims and exposure for vacation pay, waiting time penalties and interest.[5]   If a company is unable to pay out all accrued vacation pay earned by employees prior to transitioning to an unlimited vacation policy, the only way that the Company can avoid potential liability is by continuing to require employees to report time worked and time spent on vacation.

In summary, before adopting an unlimited vacation policy, California employers should carefully consider applicable law, costs of implementation, attributes of their business and employees, as well as the awesomeness of the Mozart factor.

For more information about this or related matters, please contact Valerie Menager at 650-342-9600 or vmenager@carr-mcclellan.com

[1] “Time Cards are Passe” by Dharmaesh Shah,  New York Times, March 4, 2014

[2] Cal Labor Code section 226(a)(2); 29 CFR §516.1.

[3] Cal Labor Code section 226(b).

[4] Cal. Labor Code Section 227.3

[5] Cal. Labor Code Section 203