Co-authored by George Preonas and Hayley Macon

On July 23, 2012, in Harris v. Superior Court (Liberty Mutual Ins. Co.), a case that the California Supreme Court previously had reversed and remanded, the California Court of Appeal stuck by its prior conclusion and held that insurance claims adjusters do not qualify for the administrative exemption from overtime pay requirements.

The Harris case involved claims for unpaid overtime by a class of Liberty Mutual insurance claims adjusters.  The claims adjusters argued that they were misclassified as administratively exempt.  After class certification, the claims adjusters moved for dismiss Liberty Mutual’s affirmative defense that they were exempt employees.  The trial court denied the motion.  On appeal, the California Court of Appeal reversed, applying the “administrative/production worker dichotomy” test set forth in two Bell v. Farmers Insurance Exchange cases—(collectively “Bell”)—and found that, because claims adjusters did not perform administrative work, they could not qualify for the administrative exemption.  The California Supreme Court granted review of the decision.

On December 29, 2011, the Supreme Court reversed the Court of Appeal’s decision, concluding that it had erred in relying on Bell because it was distinguishable.  The Supreme Court further ruled that the Court of Appeal had erred in relying primarily on the administrative/production dichotomy, instead of following the language of the relevant wage order and regulations.  The Supreme Court remanded, ordering the Court of Appeal to first apply the language of the statutes and wage order to the facts, and only then, if the statutes and wage order failed to provide sufficient guidance, look to the administrative/production dichotomy.

At issue on remand was one of the four requirements for the administrative exemption – whether the work is administrative.  Under the California Wage Order 4 and the federal regulations, administrative work must be “directly related” to the management policies or general business operations of the employer.  In order to be “directly related,” the work must be both administrative in nature and of “substantial importance” to the management policies or general operations of the employer’s business.  Harris addresses only the nature of the work.  

To consider whether the nature of the claims adjusters’ work qualified as exempt administrative work, the Court of Appeal cited the interpretative federal regulations, which provide that an employee’s work duties meet the exemption test only if they “relat[e] to the administrative operations of a business as distinguished from ‘production.’”  Relying heavily on a 1991 Third Circuit case, Martin v. Cooper Elec. Supply Co., and a federal case from Connecticut, the Court of Appeal interpreted this regulation to include only duties involving establishment of management policies or general business operations.  Under this rationale, claims adjusters cannot be exempt because they adjust individual claims, rather than set broader policy or run general business operations. 

The Court of Appeal then applied the administrative/production dichotomy test in further support of its determination that claims adjusters are non-exempt.  Again relying on Martin from the Third Circuit, the Court of Appeal held that “production” employees do not qualify as exempt employees who are performing the exempt task of “servicing the business,” because they are not formulating general policy on behalf of the business.  The Court of Appeal reasoned that claims adjusters were production employees because Liberty Mutual’s product is risk transference, and claims adjusting is an essential part of risk transference.  Although the Court of Appeal thus applied the administrative/production dichotomy with the same result achieved in Bell, the Court of Appeal denied that it was following Bell, as the Court here was considering only employee’s duties, not their role. 

The Court of Appeal expressly declined to follow other federal and administrative authority, including applicable Ninth Circuit decisions, on the grounds that it is not bound by those other federal decisions, and instead preferred to rely on the Third Circuit’s decision in Martin.

The Court of Appeal also rejected Liberty Mutual’s argument that the class was too heterogeneous to certify a class, and instead relied on its categorical conclusion that the claims adjusters did not perform duties involving management policy or general business operations, so they could not be exempt. 

What Harris Means for Employer

The Court of Appeal’s decision is highly controversial because of its application of the administrative/production dichotomy, as well as its rejection of seemingly persuasive analogous federal law, including authority in the Ninth Circuit.  The panel’s decision to essentially reinstate what the Supreme Court had just reversed is difficult to reconcile with the high court’s decision.  Indeed, the appellate justice who authored the original opinion wrote a dissent from the panel’s decision on remand.

The Court of Appeal’s decision thus creates significant uncertainty for the trial courts and for employers.  If the decision stands, then the administrative exemption in California could have very limited application.  Insurance claims adjusters and many other employees currently classified as administratively exempt might have to be reclassified as non-exempt, unless they are among that small group of employees who are primarily involved in setting company policy or running general business operations.  We anticipate strenuous efforts to seek review of this decision.