Some employers historically have set a new employee’s wages, at least in part, on the employee’s compensation at his or her previous employer. The rationale most likely is to set compensation high enough to create an incentive for the employee to accept employment, while not paying more than the market dictates for the employee’s services.
Employers’ reliance on applicants’ past compensation has attracted negative attention from the California legislature and the courts. A recent federal court ruling and a newly amended California statute severely restrict employers’ ability to lawfully ask for and rely on salary history in making employment decisions.
The Rationale Behind the Restrictions
The federal Equal Pay Act prohibits discriminatory wage differentials between similarly situated male and female employees performing substantially similar work. The California Fair Pay Act extends this protection beyond gender to prohibit discriminatory wage differentials based on race and ethnicity. California employers must comply with both laws.
Of course, salary differentials among employees lawfully exist for a variety of reasons. Both state and federal law permit employers to prove that one or more of these reasons justify a wage disparity, including merit pay or incentive compensation, pay for length of service, and compensation based on volume (such as commissions or piece rates). Both federal and state laws also allow employers to prove that a wage disparity is based on “any factor other than sex,” a “catch-all” exception.
In the past, employers also could rely on a “market forces” defense as included within the “catch-all.” The employer could, for example, prove that a given worker was hired during a time of low unemployment, that competition for the employee’s services inflated the “going rate,” or that the salary was set based on the employee’s “market” rate; i.e., previous salary. However, some have argued that reliance on an employee’s previous salary may perpetuate historical discrimination against women, who may have been underpaid at the prior job, or who are not as likely to negotiate for or demand higher pay during the application process.
The Legislature enacted Labor Code section 432.3 to address wage disparities perpetuated by reliance on salary history. The law prohibits California employers from asking about, or relying on, prior salary information in deciding whether to make a job offer or in determining how much to pay. The statute also requires California employers to provide applicants with the “pay scale” for a position upon reasonable request.
The initial version of the law left several issues unanswered, such as whether it applied only to new applicants or existing employees seeking transfer or promotion; what constitutes a “pay scale,” and whether employers may ask applicants their salary expectations for a job.
The Legislature amended section 432.3 in July 2018 to address these potential ambiguities. The statute’s salary history prohibition now applies only to new employees, not current employees. Of course, wage discrimination remains unlawful as to current employees, subject to the defenses available under the California Fair Pay Act.
The amendments also explicitly permit an employer to inquire as to an applicant’s “salary expectations.” Helpfully, the new version of the law defines “pay scale” to mean a salary or hourly wage range (but does not require inclusion of bonuses or equity ranges). The term “reasonable request” for the pay scale now is defined as occurring only once an applicant has completed an initial interview. This clarification should help reduce requests for pay scales made via spurious applicants, such as on behalf of competitors.
The newly enacted legislation also adds a new blanket prohibition to the California Fair Pay Act: “Prior salary shall not justify any disparity in compensation.” The law also removed from Labor Code section 1197.5 language suggesting that salary history in combination with other factors may justify a pay disparity.
The Ninth Circuit’s View
The new, definitive language in the Labor Code is consistent with the Ninth Circuit’s recent decision in Rizo v. Ovino, in which the court re-interpreted the federal Equal Pay Act. Like the Labor Code, the federal law prohibits discriminatory wage disparities based on sex. Once the employee establishes a disparity, the employer has the burden to prove one of four defenses apply: a seniority system, a merit system, a system that measures earnings by quantity or quality of production, or a “differential based on any factor other than sex.”
In the Rizo case, decided in April 2018, the Ninth Circuit expressly rejected the use of salary history in making compensation determinations. The Fresno County Office of Education hired Rizo as a math consultant. The county followed its written policies to set her salary level based on her previous job’s compensation, plus an increase. After Rizo found out others holding her same position earned more, she sued. The county relied on the “catch-all” in the Equal Pay Act, arguing that it set all employees’ initial wage rate according to its formula.
The Ninth Circuit rejected the county’s defense, and, in doing so, overruled its own precedent from 36 years ago. The court ruled that an employer cannot rely on an applicant’s salary history in whole or in part to set a wage rate and justify a sex-based wage disparity.
The federal court’s decision is even broader than California law. The state statute specifically provides that an employer can rely on salary history if it is voluntarily offered by the applicant. The Ninth Circuit’s decision in Rizo includes no such exception. That is, an employer cannot use salary history to justify a gender-based wage disparity regardless of the source of the applicant’s salary history information.
Naturally, a new employee’s compensation rate cannot be based on what the employee earned at his or her prior job. Management must train those involved in the hiring process that inquiries about previous salary, and reliance on prior compensation, simply are prohibited. Application materials should be modified to eliminate references to prior pay rates. Those responsible for checking references also may not inquire of prior employers about salary history.
It remains entirely lawful to pay employees different rates based on education, prior work experience, or differences in the job. At the same time, if two employees are hired on the same day for the same job, the courts will scrutinize carefully the reason for a pay disparity if the new hires are of different sexes, races, or national origins.
To minimize risk, employers should consider setting specific criteria for pay disparities and tight compensation ranges or fixed initial pay rates. Employers may also create different job classifications, which distinguish between employees with little to know experience, higher education attainment, etc.
Finally, employers should document the reasons for wage changes that result in pay rate differentials among employees performing the same work. Employers may wish to consider auditing current employees’ pay rates to see if the reasons for disparities can be explained.