Colorado Supreme Court: Employers Must Pay Out Earned Vacation Upon Separation

Brownstein Hyatt Farber Schreck

Employers operating in Colorado gained clarity from the Colorado Supreme Court on a closely watched state wage and hour law issue—earned vacation pay must be paid out upon separation from employment, notwithstanding any written agreement or employment policy to the contrary. (Nieto v. Clark’s Market, Inc., Supreme Court Case No. 19SC553, June 14, 2021.)

Colorado law regarding payment of accrued vacation upon separation

Colorado wage laws do not require that employers provide workers with paid vacation, but most employers do. The Colorado Wage Act (the “Act”) provides that “vacation pay earned in accordance with the terms of any agreement” constitutes “wages” or “compensation,” and the employer must, upon an employee’s separation from employment, provide “all vacation pay earned and determinable in accordance with the terms of any agreement between the employer and the employee.” See C.R.S. section 8-4-101(14)(a)(III) (emphasis added). Under the plain language of the statute, therefore, it would seem that employers should be able to define how and when vacation time is paid out. However, the Colorado Supreme Court disagrees.

The Colorado Department of Labor and Employment’s interpretation

Notwithstanding the statutory language, the Colorado Department of Labor and Employment Division of Labor Standards and Statistics (“Division”) has consistently taken the position that if an employer provides paid vacation, the accrued vacation time cannot be forfeited upon separation from employment.

For instance, in Blount Inc. v. Colo. Dept. of Labor & Employment, et al., the Division issued an administrative determination in favor of an employee regarding payout of accrued vacation time upon termination of employment. The employer appealed the decision to the district court (City & Cnty. of Denver Case No. 17CV34019). The Division argued that prospective vacation time, awarded at the start of each calendar year, constituted “earned” wages subject to payout upon termination. The Division also took issue with “use-it-or-lose-it” vacation policies, whereby an employee could potentially lose accrued vacation time during employment before he or she had the opportunity to use it.

The district court reversed and vacated the Division’s decision, and the Division then appealed to the Colorado Court of Appeals, which affirmed the decision on different grounds in an unpublished decision, finding (among other things) that the vacation pay had not “vested” as of the date of termination. (Case No. 2018CA2455, September 24, 2020.) The Court of Appeals concluded that, although the employee’s vacation time was determinable and earned, it was not vested because the employer’s policy explicitly stated that unused vacation time was not payable to the employee at any time, including upon termination, and the plain language of the Act does not provide a substantive right to payment for unused vacation time.

History of Nieto v. Clark’s Market

In Nieto, the employer had a policy that employees who were discharged for any reason, or who voluntarily resigned without giving two weeks’ notice, forfeited any accrued but unused vacation time. The plaintiff employee was discharged and, in accordance with company policy, was not paid out for accrued vacation time. She sued. The district court, granting the employer’s motion to dismiss, held that the language of the Act means exactly what it says—i.e., the agreement between the employer and the employee controls—and concluded that the Act “clearly and unambiguously gives employers the right to enter into agreements with [their] employees regarding vacation pay,” and that the plaintiff did not have a “vested right” to the vacation pay. The Court of Appeals affirmed the judgment, finding that the Act does not create a substantive right to payment for accrued but unused vacation time, and the agreement between the employer and employee (which can be a handbook policy, as it was here) governs. (Case No. 2019 COA 98, June 27, 2019.) In so holding, the court confirmed that the language of the Act was clear—employers should be free to define under what circumstances vacation time is paid out. The plaintiff subsequently petitioned the Colorado Supreme Court for certiorari review, which was granted.

The Division’s response

In 2019, apparently in response to the Court of Appeals’ decision in Nieto, the Division promulgated its first regulation interpreting the Act’s vacation pay provisions, establishing that the Act “does not allow a forfeiture of any earned (accrued) vacation pay.” See 7 Colo. Code Regs. § 1103-7-2.17 (2020) (“Rule 2.17”). Rule 2.17 provides an illustrative example based on “an agreement for ten paid vacation days per year,” noting that, while the agreement between the employer and employee “may provide that employees can accrue more than ten days, by allowing carryover of vacation from year to year” and “may cap employees at ten days,” it “may not diminish an employee’s number of days (other than due to use by the employee).” 7 Colo. Code Regs. § 1103-7:2.17(4) (alterations in original). Accordingly, although Rule 2.17 was consistent with the position taken by the Division in the lawsuits, it was not consistent with the Court of Appeals’ holding. Because Rule 2.17 was not in effect when the employees made their claims in Nieto and Blount, the Court of Appeals did not address to what extent—if at all—the Division’s rule might impact a court’s interpretation of the Act.   

The Colorado Supreme Court’s reversal in Nieto

In a case of first impression, the Colorado Supreme Court took up these conflicting interpretations of the Act in Nieto and analyzed the language of the Act as it pertains to payout of vacation time upon separation. The court noted that, although employers are not required to provide paid vacation, “vacation pay” is included in the category of protected wages and compensation in the Act, such that if an employer chooses to provide vacation time, unused time must be paid out upon separation.

Specifically, the court rejected the idea that vacation pay that is earned and determinable must also be “vested” to be covered by the Act as protected wages. Relying on the legislative history of the Act, the Court found that the legislature included the word “vested” in other definitions of “wages” in the Act, yet omitted it in the provision pertaining to vacation pay, signaling that it did not intend the concept to apply to vacation pay. Thus, the more specific vacation pay definition should control, requiring only that vacation time be “earned and determinable.”   

Further, the court concluded that, when employers choose to provide vacation pay, “such pay is no less protected than other wages or compensation and, thus, cannot be forfeited once earned. Accordingly, under the [Act], all vacation pay that is earned and determinable must be paid at the end of the employment relationship,... and any term of an agreement that purports to forfeit earned vacation pay is void.” (Citations omitted.) The Court reasoned that any other reading would render the vacation payout provision superfluous and would frustrate the remedial purpose of the Act, which must be liberally construed to protect employees from exploitation, fraud and oppression. The court discounted the Act’s (apparently) plain language that vacation time must be paid out upon separation “in accordance with the terms of any agreement between the employer and the employee,” finding that, although employers and employees can make an agreement to have vacation pay, that agreement cannot include a provision that forfeits any of the earned vacation time. 

The employer’s policy in Nieto also included a “use-it-or-lose-it” provision, meaning that vacation did not carry over from year to year during employment. The Supreme Court referenced that policy in footnote 1, noting that it created a dispute regarding how much vacation time the employee had actually accrued (or could have accrued) during employment. However, consideration of this issue was outside the scope of the court’s review (i.e., “whether [the applicable section of the Act] allows an employment agreement to forfeit an employee’s accrued but unused vacation pay upon termination of employment”), and the court did not comment directly on that aspect of the employer’s policy.

What this means for employers

Nieto is an important holding for employers, who previously lacked definitive guidance on this issue. Our legal advice to employers has long been that, because the Division interpreted the Act to require payout of accrued vacation upon separation, that was the safer course of action.  

Going forward, employers with Colorado employees should assess their vacation and paid time off policies in consultation with legal counsel to determine whether modifications are necessary in light of this decision, which makes it clear that the Division’s interpretation—that accrued unused vacation must be paid out upon separation—prevails. (Note that this opinion does not impact employees’ rights—or employers’ obligations—with respect to paid leave under the Healthy Families and Workplaces Act (“HFWA”); virtually all Colorado employers are required to provide such leave, but such leave time does not have to be paid out upon termination.  See Colo. Rev. Stat. § 8-13.3-403(5)(a).) 

Among other things, employers may consider eliminating paid vacation altogether, which may not be feasible or desirable, especially in a tight job market. At a minimum, to decrease their liability, employers may wish to separate out paid vacation time and paid sick leave (such as that required by the HFWA, which may be satisfied by employers’ more generous leave policies), rather than combining them into the catch-all “paid time off.” Employers also should consider having paid vacation accrue over time rather than providing up-front grants to minimize payout upon separation, particularly for employees who end up being short-term. Moreover, based on the Court’s statement that vacation pay “cannot be forfeited once earned,” employers would also be well-advised to implement caps on vacation accrual rather than “use-it-or-lose-it” policies precluding carryover of earned vacation during employment, which appear to be prohibited by Rule 2.17 and Nieto. There are additional considerations for employers with “unlimited” vacation policies; for instance, explicit caps on accrual could be considered the presumptive entitlement.

While this decision may not be a welcome one for employers, at least we now have clarity on the issue.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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