January 20, 2015 – The United States Supreme Court today rejected an employer’s request for review of the California Supreme Court’s decision in Iskanian v. CLS Transportation Los Angeles, LLC. This action could represent a major victory for California plaintiffs (and their attorneys) – and a significant blow to employers.

In Iskanian, the California Supreme Court held that, unlike class action claims, representative claims for penalties under the Labor Code Private Attorneys General Act (“PAGA”) cannot be waived in employment arbitration agreements. PAGA empowers an employee to step into the shoes of the Labor Commissioner to recover penalties arising not only out of essentially any violation of California’s Labor Code or Wage Orders committed against him- or herself, but also penalties based on violations committed against every other current and former employee.

The penalties differ from damages typically sought by plaintiffs in important ways. First, the penalties are in addition to damages. So, for example, an employee who was not paid time-and-a-half for overtime can recover as damages the amount of unpaid wages. On top of that, he can seek penalties for each pay period in which he was underpaid – as well as for each other employee who was denied overtime pay. The penalties are typically $100 per violation per pay period per “aggrieved “employee (that is, each employee affected by the violation) – so the penalties can reach staggering levels.

Second, before PAGA was enacted, civil penalties could only be recovered by the State Labor Commissioner – not by an individual employee. Thus, because enforcement actions by the State were (and are) few and far between, PAGA in effect created an entirely new category of exposure for employers.

Third, 75% of the penalties recovered in a PAGA action must be paid to the State – so (although the Labor Commission doesn’t participate in litigating the claim, negotiating a settlement, etc.) the State clearly has an interest in the outcome of PAGA claims.

The California Supreme Court recognized that SCOTUS interpreted the Federal Arbitration Act (“FAA”) as preempting any state-law rules that disfavor arbitration. In particular, any rule that purports to invalidate arbitration agreements that waive an employee’s ability to bring class actions has been struck down by SCOTUS. However, in the California Supreme Court’s view, PAGA representative actions are simply not the same as class actions – and the right to bring a representative action cannot be waived.

The Court reasoned that “[n]othing in the text or legislative history of the FAA nor in the Supreme Court’s construction of the statute suggests that the FAA was intended to limit the ability of states to enhance their public enforcement capabilities by enlisting willing employees in qui tam actions. Representative actions under the PAGA, unlike class action suits for damages, do not displace the bilateral arbitration of private disputes between employers and employees over their respective rights and obligations toward each other. Instead, they directly enforce the state’s interest in penalizing and deterring employers who violate California’s labor laws.”

The Court expressly stated that the rule it announced did not conflict with the FAA or SCOTUS’s interpretation of that statute:

Our FAA holding applies specifically to a state law rule barring predispute waiver of an employee’s right to bring an action 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.

In sum, the FAA aims to promote arbitration of claims belonging to the private parties to an arbitration agreement. It does not aim to promote arbitration of claims belonging to a government agency, and that is no less true when such a claim is brought by a statutorily designated proxy for the agency as when the claim is brought by the agency itself. The fundamental character of the claim as a public enforcement action is the same in both instances. We conclude that California’s public policy prohibiting waiver of PAGA claims, whose sole purpose is to vindicate the Agency’s interest in enforcing the Labor Code, does not interfere with the FAA’s goal of promoting arbitration as a forum for private dispute resolution.

In their petition for certiorari, attorneys for CLS Transportation argued that the State Supreme Court’s ruling was “manifestly incorrect” and urged SCOTUS – the only court with the ability to invalidate California’s high court’s ruling – to reject the interpretation of the FAA described above. SCOTUS summarily rejected CLS Transportation’s petition.

The full significance of today’s decision remains to be seen. The federal district courts have, with just one exception (the Northern District’s recent ruling in Martinez v. Leslie’s Poolmart, Inc.) rejected the California Supreme Court’s rationale and have enforced waivers of representative PAGA claims. (Note that the California Supreme Court’s interpretations of federal law are not binding on federal courts – so the district courts are free to disregard the Iskanian holding.)

The district courts may not change course based on SCOTUS’s decision not to review the Iskanian decision – SCOTUS’s denial of a petition for certiorari is not the same thing as an endorsement of the California Supreme Court’s view in Iskanian; nor does it mean that The Nine believe the district courts that have refused to follow Iskanian got it wrong. SCOTUS declines to review cases for a variety of reasons, including a lack of sufficient development of an issue in the lower courts and an assessment that the issue is not important enough to warrant action by the highest court in the land. At a minimum, though, SCOTUS’s inaction undercuts employers’ argument that the Iskanian court misinterpreted federal law.

The next word on the interaction between PAGA and the FAA will likely come from the Ninth Circuit. Two separate challenges to the Iskanian rule are fully briefed and awaiting oral argument.