We have been following how California courts deal with the intersection of Private Attorneys General Act (“PAGA”) claims and individual arbitration agreements after Iskanian v. CLS Transportation Los Angeles, LLC, 59 Cal. 4th 348 (2014) (“Iskanian”) for some time.  See, for example, our blog posts from October 7, 2015, March 8, 2017 and March 30, 2017 on the subject.  This area of law is confusing and has suffered from a lack of legislative or judicial guidance.

Now, a California court of appeals has added substantial clarity by ruling that claims for unpaid wages based on California Labor Code Section 558 where a percentage of recovery is not allocated to the Labor and Workforce Development Agency are not covered by PAGA and must be arbitrated.

In Esparza v. KS Industries, L.P., No. F072597 (Cal. Ct. App. 5th Dist., Aug 2, 2017), a former employee sought damages, individually and on behalf of other employees, seeking unpaid wages, civil penalties, interest, attorneys’ fees and costs under the Labor Code and for violation of PAGA.  When KS Industries filed a motion to compel arbitration, the employee responded that a claim for civil penalties under PAGA cannot be arbitrated, and that includes claims for recovery of wages.  The trial court denied the motion to compel and the request for a stay.  And KS Industries appealed. 

Against the backdrop of U.S. Supreme Court decisions on the FAA, the Court of Appeals considered the Iskanian holding and also the language of PAGA and Labor Code Section 558.  While the employee maintained that a “civil penalty” under Labor code 558 was a “civil penalty” under Labor Code Section 2699, subdivision (a) [PAGA] and a “civil penalty” under the Iskanian rule, the appellate court strongly disagreed.  It characterized the employee’s argument as “based on semantics and not substance.”

The Court found a “substantive aspect” of the wage claim was that it all went to the affected employee.  Citing Iskanian, the Court found the goal was to consider substance “in determining the scope of representative claims that could be pursued outside arbitration,” without breaching the FAA.  And, the language of the California statutes did not resolve the impact of the federal statute, the law that ultimately controls.

Thus, an employee’s claim for unpaid wages under Labor Code Section 558 was an individual dispute under the FAA which stemmed from that employee’s employment contract.  The dispute was private, according to the Court, in part, because the employee could bring the claim himself.

And, while there may be some overlap between private and enforcement agency disputes, when there is they remain private and covered by the FAA.  The Appellate court reasoned:

“To hold otherwise would allow a rule of state law to erode or restrict the scope of the Federal Arbitration Act – a result that cannot withstand scrutiny under federal preemption doctrine.  Therefore, we conclude preventing arbitration of a claim for unpaid wages would interfere with the Federal Arbitration Act’s goal of promoting arbitration as a forum for private dispute resolution.  (See Iskanian, supra, 59 Cal.4th at p. 389).”

The Court also found the employee’s claims on behalf of “other aggrieved employees” also sought victim-specific relief and were private disputes.  It declared:

“[the rule of nonarbitrability adopted in Iskanian is limited to claims ‘that can only be brought by the state or its representatives, where any resulting judgment is binding on the state and any monetary penalties largely go to state coffers.’  (Iskanian, supra, 59 Cal.4th at p. 388, italics added.)  These limitations are not met by the claims for unpaid wages owed to other aggrieved employees because (1) those employees could pursue recovery of the unpaid wages in their own right and (2) the unpaid wages recovered would not go to state coffers.”

In other words, the Iskanian rule, in the Court’s view, was “limited to representative claims for civil penalties in which the state has a direct financial interest.”

Because the appellate court could not discern the former employee’s true position from the order entered by the trial court, it remanded the case so the employee could indicate whether he wishes to pursue claims for unpaid wages and other individual relief– which would be arbitrated.  The trial court would then have to consider whether to stay the action until arbitration is concluded.  Or, the individual could elect only to pursue PAGA representative claims and those limited claims would continue in court.

In its opinion, the Court of Appeals shed light on what had been a perplexing question – the border between claims subject to individual arbitration and those relegated to judicial disposition under PAGA.  How courts should sequence the resolution of the individual versus representative claims has been an issue as has whether an arbitrator’s determination that a party is not “aggrieved” under applicable California law would have any impact on the PAGA representative claims.  Some California courts could have said “no” but does that conflict with the federal decisions enforcing the FAA?  See Hernandez v. Ross Stores, Inc., No. E064026, 2016 WL7131651 (Cal. Ct. App. 4th Dist., Dec. 7, 2016) (Arbitrator can’t decide whether plaintiff is an “aggrieved” individual under PAGA).

So, although the Esparza decision sheds much needed light on PAGA coverage issues, there are many issues remaining.

Bottom Line:  The Esparza opinion makes clear that claims for unpaid wages based on Labor Code Section 558 are not covered by PAGA and must be arbitrated.